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Remarks of Carl Albert, Chairman and CEO, Fairchild Aerospace Corp., to Aero Club, June 29, 1999

I’d like to talk to you today about three subjects: revolutionary changes in our industry and the forces that are bringing them about; doing business in Germany with it’s reputation for high cost; and illegal government subsidies, ruled by the World Trade Organization to be illegal.

Let’s talk first about the changes that are coming to the industry.  Many of us make the mistake of thinking that the evolution is complete, that we’ve reached a modern stage today. That’s wrong, the rate of change is itself accelerating and there will be more change in the airlines over the next ten years then we’ve seen over the past ten years.  We can accept this when we think of the Internet, but when we think of aircraft and airlines, we have a hard time. 

I’m going to talk about major changes that are coming and the reasons for them.  Let’s look at the last 20 years. I remember coming to Washington before deregulation to look for route changes and fare increases.  That seems like such a distant past.  We remember the time before hubs -- it’s hard to remember those when we go through these hubs all the time -- but there was a time before hubs.  We accept that as the current state.  We think back to the era just after de-regulation and the 19-seat turboprop, the Metro and the Beech 1900, which in their day were modern, fast, pressurized aircraft, better than the unpressurized twin engine piston-driven aircraft they replaced.

And we watched the whole crop of 30 to 42-seat turboprops -- the Saabs, the Brazilias , the Dash-8s, and the ATRs build a complete regional airline industry, one we used to call the commuter airline industry.  But we’ve seen the first phase of the revolution.  We’ve seen passenger dislike for turboprops, gripe about them, view them as old-fashioned and obsolete.  And starting in 1993 we saw the beginning of the regional jet revolution.  Bombardier made a brilliant strategic move stretching it’s challenger business jet and creating, in effect, an industry. These regional jets were looked at with some doubt by many of us in the industry at the time.  Could jets really replace turbo-props?  Well, in fact, they’ve done much more than that.           

If you’ve studied the use of the CRJ, the original 50-seat regional jet, and now the Embraer145, which is also selling in large numbers, you see that a large percentage of the routes in which they fly are not turboprop replacement, but they’re new routes, routes that were too far for any turbo-prop and too thin, too few passengers for an existing large jet.  As those routes become saturated, 50-seat jets will be used to replace turboprops.  This is not the end of the revolution.  No, it’s not.  It’s the beginning. And as popular as these airplanes are today, our forecast is that they’ll become obsolete just as the Metro, which was so popular in its day, is today obsolete.

What will bring this about?  First, passenger preference. Passengers dislike turboprops.  His excellency the ambassador and I have talked about how much he dislikes getting on these noisy little airplanes and flying places with turboprops.  Jim Robinson and I reflect on an experience we had not long ago, checking in at an airline that operates our own 328 Turboprop, which is fast, efficient, and quiet. As we stepped up to this airline’s check-in counter, we knew what we were flying and I asked the check-in agent what type of airplane it was?  She checked in the computer and said, “Oh, I’m really sorry sir, it’s one of those little turboprops.” And I said,  “It’s one of those modern, German, wonderful turboprops”, and she said, “Oh I’m sorry sir, they’re all the same”. 

We cannot change these perceptions.  There’s no sense trying to change them.  Airlines will either have jets or be at a huge disadvantage competing against them.  They can connect small towns from hubs farther away than any turboprop can connect them because of their speed.  They can go into other airlines’ major hub catchment areas and pick up their traffic, what is called hub-raiding.  And they’ll create a completely new industry, a growing industry. 

Many of you know these statistics well. The compound annual growth rate of the U.S. regionals from ’89 to ’98 has been nearly 14% in RPMs compared to 4% for the majors.  Passenger enplanements have been 9.5% compared to 3.6% for the majors.  Forecasts are that between 1998 and 2017 there will be a compound annual growth rate of nearly 6% in regionals, and I think that’s a conservative projection.  These regional aircraft will change the industry. The 50-seat turboprops that are in service today and are so popular are just phase one.

Phase two will begin next month with the entry into service of the 32-seat and 37-seat regional jets produced by Embraer and Fairchild.  These will bring regional jet service to still smaller markets.  When those markets are saturated these will also replace turboprops as small as 19 seats, completing Phase one of the revolution.  But, still, that’s only Phase one.  The real revolution is yet to start. 

Imagine this.  You’re traveling on a 500 mile route and you find out it’s the regional affiliate of a major airline.  After walking through the jetway, you enter an airplane that’s larger than an MD-80, taller, large overhead, first class seating in the front and five-abreast seating in the back.  What airplane are you on?  It has 70 seats, maybe 75 seats.  It’s an airplane that doesn’t exist yet but will be started to be delivered in 2002 and it’s the beginning of a new revolution.  It’s the 728JET which we no longer call a regional jet, we refer to it as an airliner because it is in all respects, except the number of seats.

We think this type of airplane, which will be imitated and brought out by Bombardier and a smaller version by Embraer, will have the largest growth segment in the entire aircraft industry, and will fill the niche from 50 seats up to and including 100 and even a little over 100 seats.  These aircraft will again allow new routes to be flown, routes that are too thin for an existing 737-500 or 717 or MD-80 and far too long a route for any existing turboprop.  Aircraft in which passengers don’t mind sitting for two, three or four hours, because it’s an airliner, not a cramped, current-generation regional jet.

This new generation of airliners will be designed from scratch. They’re not derivatives or stretches of a business jet.  They’re designed for airline operations -- for quick turns, for servicing the way the airlines need servicing.  Lufthansa has led the way with the launch order for 60 of these 728JETS and options for 60 more.  What will they do for the airlines and the passengers?  For, as I mentioned, they’ll allow new routes. They’ll allow hub by-pass. They’ll allow point-to-point service

They’ll allow for smaller hubs, which Lufthansa plans to create at Munich for what it calls regional services which will be throughout Europe.  Frankfurt is so saturated that delays become inevitable.  They’ll reduce airlines’ costs. Airlines need to be conscious of fractions of a penny.  I remember from my own experience running a small regional airline where we had about 47 aircraft, each operating about eight segments a day.  If we could save $5 a turn, just $5 a turn, that meant three-quarters of a million dollars a year.  These airliners will save much more than $5 a turn.  They’ll allow passengers to store bags in large overhead bins.

We use one small example often with the current generation of regional jets. When you board may regional jets you have to leave your carry-on bag by the door, and have a couple of ramp personal put them in the back.  When you get to your destination two more rampers bring them out and you pick them up again.  Those rampers cost the airlines a great deal of money.  Each turn easily is $10 with those rampers, probably more, and it means millions of dollars of cost to the airlines to be able handle a passenger’s bags in a way in which he doesn’t want them handled anyway.  He’d like to just carry them on and put them in a bin.  We believe this new generation of 70 to 100 seat aircraft will be truly revolutionary.

What forces are at work to bring these about and what are opposing them?  I mentioned passenger demand and have mentioned new routes.  Scope clauses will determine when and to what extent airlines can use regional jets, the 30 to 50 seat, the 50 seat and later the larger aircraft.  Scope clauses vary, of course, from airline to airline.  Those which have not yet worked out their scope clauses have a major competitive disadvantage with those who have.  Once Continental and American made their decision to go with jets in their regional operations, the other airlines in the U.S. again faced the concept of either competing against those jets or having jets with which to compete. I personally do not know how and when will these scope clauses will be worked out.  But I think the market forces are so strong that the airlines and the unions must work them out.  I think that the pilots in the major unions will understand that the small feeder jets, as many are starting to be called, actually are good for the pilots and the majors. They bring more passengers to these majors for the long hauls. 

Will there be legislation to deal with this?  As a manufacturer I might want that. As a voter, I don’t want it.  I don’t think the government needs to get involved or should get involved.  But I do think that if communities are deprived of service, then these members of Congress and members from around the country will start hearing from their constituents, and if the unions don’t work out their own problem, who knows whether this won’t become an issue along with some of the passenger rage issues.  So scope clauses is an important issue to be worked out.

Let me talk a little bit about the second subject. doing business in Germany.  When we first looked at Dornier and taking control, Jim Robinson, our president, and I were told you can’t do it there, costs are simply too high, and labor rates, retirement, and work weeks make Germany a non-productive place; don’t even try it.  We had to think hard about that advice and we went to our labor union and showed them what our non-recurring costs would be, and the one time cost of picking up the tooling and moving it to San Antonio to build the 328JET there.

We showed them what our labor rates are in San Antonio where we have no unions.  We compared them to the labor rates and the overhead costs, the contributions for pension and other contributions required in Germany.  They were shocked.  The costs in San Antonio and many other places in the U.S. are significantly less than the costs of doing business in Germany.

So how and why are we there and why are we investing $1 billion in Germany, betting on this new generation of airliners?  We found in our particular case a union  that was willing to cooperate, that was willing to increase their hourly work week from 35 to 37.5, to give 100 hours of extra time without overtime.  To reduce their pensions, to take up productivity and efficiency gains.  When we acquired Dornier, we were producing major components – pressure bulkheads, tailcones, flaps, and ailerons for 12 Airbus aircraft a month.

Today that production rate is 21 airplanes a month.  We were able to go from 12 a month to 21 aircraft a month without a single extra worker.  We did it strictly with efficiency gains.  So we’ve proven to ourselves that it can be done in Germany

When I hear the experts say to us, you can’t do it there, I think back ten years ago, when the press was reporting that the U.S. was becoming a service economy.  They said the U.S. was too inefficient, only Asia knew how to manufacture. And it looked like they might be right.  But then, you saw restructuring and downsizing and right-sizing, and the U.S. became one of the most efficient places in the world to manufacture. My bet is that Germany will do the same.  The people there are highly trained, they’re productive. And when they work, they really work.  My forecast is that what we’ve done in Oberpfaffenhofen is just the beginning, that it will be done all over Germany, and that Germany will be a highly productive nation after its restructuring.

My last subject is illegal government subsidies.  Harsh words.  As a German-American company we face two major competitors in the regional jet business, Embraer of Brazil and Bombardier of Canada.  Each accused the other, in World Trade Organization, of providing illegal subsidies.  As Jim Robinson put it, in a brief we filed, they’re both right. And that’s what the World Trade Organization ruled.  It ruled that both of them have been engaging in illegal activities.  How can we compete? What will the U.S. and German governments do? Will Brazil comply with the World Trade Organization or will they change the name, change a comma or two, and go on with ProEx claiming it’s something else?

We need support from our governments to be able to compete on a level playing field.  There are only three countries in the world today in which regional jets are assembled: Brazil, Canada and Germany.  And if two of those three have illegal subsidies, the playing field is not level.  We’ve approached both the German and the U.S. governments and expect their support to ensure that these World Trade Organization rules are enforced.

I’ve covered my three points: the revolutionary change to come in the regional industry; doing business in Germany, and the illegal government subsidies.  I’m open to questions.