Midway's bankruptcy filing stirred Lorenzo and Erickson to action. What ensued was the development of a kind of "Midway connection," a strategy for building not just a low-cost airline but a cohesive one as well. They selectively brought into the fold some of Midway's best assets, including personnel and equipment. Erickson hired Robert Reding, whom he had known while Reding was vice-president of operations at Midway, for the same job at Reno Air. Reding in turn hired an experienced Midway pilot, Dennis Mitchell, to be Reno's chief pilot, a job that entails hiring and managing the pilot corps. Shortly after Midway's bankruptcy filing, says Lorenzo, "we went to the liquidation and bought about $750,000 worth of things for about $75,000. We got office equipment, computers."
That was only the start. Aircraft came inexpensively as well, owing to a glut of jets on the secondary market. Lorenzo and Erickson chose the MD-80, a midsize jet seating 140 people, whose leasing price had fallen by about a third during the previous few years.
The most significant savings, though, came on labor. Although pilots aplenty were looking for work, Reno Air went after -- no surprise -- those from Midway. They had already flown the MD-80, which meant that Reno could cut way back on training expenses.
Reno receives 300 to 400 applications a month from unemployed pilots, of whom only about 15 are hired. Full captains receive $50,000 to $60,000 a year, compared with $100,000 to $200,000 at the major airlines. Considering Reno pilots fly more hours for lower pay, chief pilot Mitchell estimates that his pilots are about two and a half times more productive than their counterparts are, and savings on labor costs extend throughout the company. Flight attendants receive $13 an hour, and baggage handlers, $6.50, compared with salaries that are about twice as high at the major carriers.
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Decision #3: What, if any, services to offer?
After choosing a home base and securing his cost advantage, Lorenzo faced one of the most complicated of all decisions. What kind of service should he provide? Should he mimic Southwest's no-frills operation? Build a full-service operation? Offer luxury service?
The latter was easy to rule out. The luxury market was too small. The number of first-class seats on the nation's airlines had declined steeply over the years, and new airlines that had tried that strategy in the past -- MGM Grand Air, Air One, and Regent Air -- had all failed.
Nonetheless, two entrepreneurs established a luxury airline to fly between Houston and Newark. Barney Kogen, who had once owned a large travel agency, Lifeco Travel Services, was confident that Houston business travelers would support a deluxe service. He and his partner, Gordon Cain, a local businessman, offered luxury service for the same price as a Continental full-fare ticket on the same route. But few passengers materialized, and UltrAir's scheduled service was pulled last summer, almost at the same time Reno Air was reporting a profit for its first year. By November UltrAir was back with a new strategy, flying from New York City to destinations in Florida at cut-rate fares.
Knowing that luxury service was a bad bet, Lorenzo looked to Southwest for inspiration, although the service he eventually provided was much different. "We came very close to doing a Southwest operation," he says. "But there was another factor that kept nagging at me. Southwest treats passengers like they're homogeneous. In fact, they are not."
Lorenzo thought that even on short flights certain service amenities were important to business passengers. Many, for example, stay at their offices working as long as they can and arrive at the airport with minutes to spare. Because there are no advance seat assignments available on Southwest, people who arrive at the gate shortly before the flight often are squeezed into middle seats, where it is more difficult to work. "To get a decent seat," says Lorenzo, "they have to cut their business meetings short and get to the airport 45 minutes or an hour ahead of time. Otherwise, God knows where they're going to wind up." He adds, "We looked at all of that and said, 'Is that the way to go, with a cattle-car operation?' We felt no."
Lorenzo thought he could attract more business travelers by looking more like American Airlines -- with meals, first-class service, and other amenities -- than like Southwest. With low first-class fares, he counted on enticing businesspeople to fly up and down the West Coast, with a change of planes in Reno.
Lorenzo also debated the issue of whether to provide meals. Although the subject of airline food has kept many a comedian in business, it does represent a significant cost: food accounted for about 5% of the operating expenses of American Airlines last year. But Lorenzo decided to add some food, anyway: potato chips, pretzels, and cookies in coach, and a sandwich and wine in first class, to make Reno Air more attractive to business travelers. "Businesspeople on the West Coast make up 40% to 45% of the total market," he says. "Why do I as a start-up want to write off 40% to 45% of my potential market?" Food service also would give him an advantage in any future wing-to-wing competition with Southwest.
Lorenzo's costs were otherwise so low across the board that he could add those modest services and more -- automated ticketing through travel agents and advance seat selection, for example -- without materially affecting his bottom line. Reno Air's cost of flying, at 7.9¢ per seat mile, is only about three-fifths of a cent higher than Southwest's and materially lower than that of the major carriers, which ranges from 8.5¢ to 12¢ a seat mile. And Lorenzo felt that the services he was adding would attract customers and that the additional revenues would more than offset the costs.
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Decision #4: Stay flexible. Be opportunistic.
American Airlines, losing about $50 million a year at its hub in San Jose, decided last year to cut its losses by leasing some of its gates to another carrier. "I heard rumors that American Airlines was talking to America West," says Lorenzo. "Even though we were sitting there with a niche in Reno, we were concerned." Lorenzo flew to American's headquarters in Fort Worth, where he made a pitch for the gates.
