CASE SUDY

Read the following case studies:

1. “Continental”
2. “Starwood Hotels and Resorts”
3. “Jet Blue”

Choose one to provide an analysis of the case to include:

1. Overview of the company
2. Overview of the problems the company faced
3. List of the key players in the case
4. Solutions to the problems the company faced
5. Your personal assessment of the situation and three strategies you would have used to approach the problems differently.
6. Assess the performance of the company since the case study was written

ABSOLUTELY NO PLAGIARISM, PAPER MUST MAKE SENSE, NO GRAMMATICAL ERRORS. MINIMUM 900 WORDS WITH AT LEAST 3 SCHOLARLY/PEER REVIEWEDAPA REFERENCES. MUST INCLUDE A PROPER INTRODUCTION AND A WELL CONSTRUCTED CONCLUSION. DUE JANUARY 12, 2018 AT 11AM NY EST TIME. 

Writtenby Stephane Duchenne, Carol Ann Fisher, Jeffrey S. Harrison, Cheryl Farr Leas, Yash Krishna,

Michel Rugema and Yongqing Yang at the School of Hotel Administration, Cornell University. Copyright c
Jeffrey S. Harrison.
This case study was written for the purposes of classroom discussion. It is not to be duplicated or cited in
any form without the copyright holder’s express permission. For permission to reproduce or cite this case,
contact Jeffrey S. Harrison (harrison@richmond.edu). Permission to use in the classroom will be granted
free of charge.

The Center for Hospitality Research
AT CORNELL UNIVERSITY

CAN CONTINENTAL AIRLINES CONTINUE
TO WORK HARD, FLY RIGHT & FUND

THE FUTURE?
We weren’t just the worst big airline. We lapped the field.

– CEO Gordon Bethune1

When Gordon Bethune arrived in Continental Airlines’ executive offices in
February 1994, he almost turned around and left again. Continental was the lowest-
performing of the major U.S. airlines. It had the worst on-time record, filed the most
mishandled-bag reports, and received customer complaints at a rate of nearly three times
the industry average.2

1 Bethune, Gordon with Scott Huler. From Worst to First: Behind the Scenes of Continental’s Remarkable Comeback. New
York: John Wiley & Sons, 1998, p. 4.

2 Ibid.

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Worst of all was employee morale. Sick time, turnover, on-the-job injuries, and
worker’s compensation claims stood at record highs, and a culture of mistrust reigned.
Airport employees were so embarrassed by the company that they ripped their logo
patches from their shirts to avoid having to answer for the company’s behavior to
customers and airport coworkers.3

Within two years, Continental Airlines was transformed from almost-certain doom
as one of the worst performers in the airline industry into a standard-bearer in all
respects: profitability, reliability, customer service, and employee satisfaction. And
despite the turmoil in which the airline industry finds itself in the post-September 11th
world, Continental continues to survive. The key is a well-focused brand and a clearly
defined corporate culture in which everybody works together to win.

A Short History of Continental Airlines
Continental Airlines has such a fascinating history that it has been the subject of at

least two books. Maverick tells the Continental Airlines tale from 1937 to 1980, the 43-year
span when the airline’s guiding influence was Robert Forman Six, CEO for 40 of those
years.4 From Worst to First, takes over the narrative in 1994, revealing how the current
CEO, Gordon Bethune, turned a woefully unprofitable company–Continental Airlines
declared bankruptcy twice between 1983 and 1990–into one of the most admired airline
companies in the industry today.5 Exhibit 1 contains some of the highlights of
Continental Airlines’ History.

The Maverick Years
Louis Mueller and Walter T. Varney created Varney Speed Lines in 1934. Varney

transported mail and some passengers in the southwestern region of the United States. In
July 1936, Mueller sold 40% of the company to Robert Forman Six, who renamed the
fledgling carrier Continental Airlines in 1937–and went on to become one of the greatest
leaders of the industry. In Maverick, author Serling states: “Without question, he is as
complex a person who ever headed an airline. He is hard, quick-tempered, profane and
dictatorial. He is also soft, warm-hearted, sentimental, deeply religious and generous.”6

3 Ibid, p. 5-6; also Brenneman, Greg. “Right Away and All At Once: How We Saved Continental,” Harvard Business
Review, Sept-Oct 1998; HBR OnPoint product no. 4193; p. 12.

4 Serling, Robert J. Maverick. Garden City, NY: Doubleday, 1974.
5 Bethune and Huler. From Worst to First. New York: John Wiley & Sons, 1998.
6 Serling, Maverick, p. 321.

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When Robert F. Six took over as Continental’s CEO, his long-term goal was to
provide reliable and profitable flights, which would eventually fly beyond the borders of
the United States.7

In the years preceding World War II, Continental flew to destinations that
included El Paso, Albuquerque, Las Vegas, and cities within Colorado. As the war
approached an end, Continental expanded its regional route structure with service
between Denver, Colorado, and Kansas City, Missouri; and between El Paso and San
Antonio, Texas. By 1945, the company had 400 employees and was serving 26 cities.8

Determined to expand its role as a regional airline, Six merged Continental with
Pioneer Airlines in 1953 and expanded its routes to 46 cities. The new, larger carrier
provided service to every city in Texas with a population of more than 100,000
inhabitants.9

In June 1959, Six determined to set Continental apart from its main competitors,
who were then just joining the jet age. He introduced the Boeing 707 into the fleet. To
maintain its small jet fleet, Continental developed an innovative “progressive
maintenance” program that enabled the jet fleet to fly 7 days a week, 16 hours a day.10

In the 1960s, Continental doubled its route structure and achieved its goal of flying
internationally. The airline began servicing routes to Southeast Asia, and launched
charter services to such European cities as Frankfurt, London, Paris, and Rome. In 1967,
Continental won a five-year contract for routes to Micronesia. Out of the pact a new
enterprise was born to fly the routes: Air Micronesia (informally known as “Air Mike”).11

The Era of Deregulation
Federal regulation of domestic airline fares and markets ended with the U.S.

government’s Airline Deregulation Act of 1978.12 What followed was a period of
evolution and metamorphosis that changed the nature of flying forever. The goal of the
act was to promote competition within the industry: It essentially gave airlines
unrestricted rights to enter new routes without Civil Aeronautics Board (CAB) approval.
The companies could also exit any market as well as raise and lower fares at will.

7 Ibid., p. 37.
8 Serling, Maverick. Also online at www.boeing.com/commercial/aeromagazine/aero, 11/8/02.
9 Ibid.
10 Ibid.
11 Continental Airlines website, “History 1959 to 1977,” Online at www.continental.com/company/history/1959-

1977.asp (viewed 11/10/02) The contract became a permanent operation that became Continental Micronesia and
celebrated 30 years of success in 1998.

12 The Department of Transport and its affiliated agency, the Federal Aviation Administration (FAA) continue to
regulate the industry with regard to safety, labor, operating procedures, and aircraft fitness, and emission levels.
Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, p. 21.

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At the same time, the oil-producing countries in the Middle East formed a cartel
and raised the price of jet fuel 88% in 1979, capped by an additional 23% in 1980. Higher
jet fuel costs–combined with tumbling fares and increased passenger loads due to
increased competition after deregulation–caused Continental’s profits to drop. Although
deregulation allowed Continental to add 18 new routes in 1979, it also brought about an
end to the airline’s long stretch of sustained profitability.

By 1980, after 40 years of service at Continental, Robert F. Six was no longer
involved with the day-to-day operations at Continental; still, he remained Chairman of
the Board of Directors. Due to losses, Continental suffered its first decrease in work force
in 45 years of operation. Employee morale was at an all-time low. Help came in the form
of a merger with Texas International, led by Frank Lorenzo, in 1982. Lorenzo became
Chairman, President, and Chief Executive Officer of the new Continental Airlines. The
merger allowed Continental to provided flight service to four continents–and Six’s goals
were at last achieved. It did not provide an instant solution to the pressures of
deregulation and increasing oil prices, however. Lorenzo was unsuccessful in negotiating
restructured salaries for unionized employees, and, in late 1983, Continental was forced
to file for Chapter XI bankruptcy reorganization.

Lorenzo reacted strongly to the news: He fired the entire staff, closed the doors to
the airline for three days, and emerged with a company about one third Continental’s
original size. By firing all employees, Lorenzo was able to reopen Continental with a non-
union staff.13 The new company regained its competitive position by the end of the year,
posting a small profit by the end of 1984. In 1986, Continental reported the largest profits
in the airline’s 51-year history. In the same year, Lorenzo acquired Eastern Airlines,
People Express, and Frontier Airlines, which gave Continental the largest route network
in the United States.

Under Lorenzo’s direction, Continental adopted the dual strategy of developing
hubs and strategic alliances as a way to remain competitive in the era of deregulation.
Continental needed a steady flow of passengers to and from its hub cities, so it created
Continental Express in 1987 as a means to deliver passengers to hub airports for onward
flights, and formed a global alliance with Scandinavian Airlines (SAS) in 1988 in which
SAS acquired 18.4% of Continental.

While the partnership with SAS has long since ended, Continental continues to
follow this two-pronged strategy today. The airline’s hubs in Newark, Cleveland,
Houston, and Guam are fundamental to Continental’s route design. Its large family of

13 “Public Broadcasting System, Innovators: Frank Lorenzo,” online at www.pbs.org/kcet/chasingthesun/
innovators/florenzo.html (viewed 12/2/02).

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partners are as important as its hubs, as they allow passengers traveling to overseas
markets to connect to other destinations using the alliance’s market routes.

Working under Frank Lorenzo was not an easy experience, however. The CEO
position was in constant turmoil between 1980 and 1990, with six chief officers filling the
position in ten years. In fact, all employees found conditions under Lorenzo difficult to
endure. Labor relations under Lorenzo were amazingly bitter between 1980 and 1990. On
October 26, 1989, the Congressional Record noted that “Frank Lorenzo has sabotaged a
distinguished airline and disrupted the lives of its employees”–and the United States
Congress declares him “unfit” to run an airline. In 1990, Lorenzo was forced out of
Continental and Holland Harris took command.

Harris was unable to work a rapid turnaround. Citing rising fuel costs and the
onset of the Gulf War, Continental filed for Chapter XI bankruptcy protection for a
second time.

Climbing the Ladder from Worst to First14
In 1993, Continental Airlines emerged from bankruptcy when leveraged buyout

firm Air Partners, led by David Bonderman, invested $450 million in the company. In an
attempt to compete with low-cost carriers, Continental launched a new company in 1993
called Continental Lite—which turned out to be not only unprofitable, but also
detrimental to the already floundering image of Continental Airlines. Continental Lite
was dismantled in 1995.

When Gordon Bethune left Boeing to become president of Continental in 1994,
stakeholders despised the company—travelers, employees, and shareholders alike.
However, under his leadership, Continental achieved 21 consecutive profitable quarters
and has won more awards for customer satisfaction than any other airline.

The turnaround of Continental Airlines wasn’t magic—far from it. Rather, it was
the result of decisive leadership and a simple but clearly defined strategy that focused on
understanding who the airline’s target market is, improving products to compete in the
marketplace, increasing revenues, and giving employees with the power and enthusiasm
to make success happen.15

14 Bethune, Gordon with Scott Huler. From Worst to First: Behind the Scenes of Continental’s Remarkable Comeback. New
York: John Wiley & Sons, 1998.

15 Ibid; introduction, “The Idea in Brief.”

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Believing that there was nowhere to go but up, newly minted CEO Gordon
Bethune and his chief operating officer Greg Brenneman, sat down and defined the Go
Forward Plan.16 Its cornerstones are:

Fly to Win: The marketing plan, focused on identifying who Continental’s
customers are and how the company can best meet their needs;

Fund the Future: The financial plan that laid the foundation for profitable growth;

Make Reliability a Reality: The product plan geared to realizing tangible results for
customers and employees alike; and

Working Together: The people plan, defining a workplace culture of trust,
involvement, empowerment, performance-based incentives, civility, and respect.

Major aspects of the plan included bonuses to travel agents to book passengers to
Continental, bonuses to employees if the flights landed on time, and a significant
reduction in management/employee barriers. This four-point vision statement laid the
foundation for Continental’s reinvention–and continues to drive both brand identity and
corporate culture today.

But Is Continental Ready to Face Fundamental Shifts in the
Airline Industry?

On January 17, 2001, Continental Airlines announced its financial results for the
year 2000–proudly announcing six straight years of profitability. This continued
profitability was even more remarkable when compared with Continental filing for
Chapter XI bankruptcy protection for the second time in seven years in 1990. The “Go
Forward Plan” allowed Continental to improve operational performance and working
environment for employees and achieve sustained profitability.17 In early 2001, all
indications pointed to a solid and enduring recovery for Continental Airlines.

But then the foundations of the airline industry were shaken to the core on
September 11, 2001. The federal government grounded all flights in response to the
terrorist attacks on New York City and Washington, D.C. The unprecedented suspension
of airline operations continued until September 14, 2001, when Secretary of
Transportation Norman Mineta allowed certain general aviation flights back into the US
airspace in late afternoon.18

16 Ibid.; pp. 4-5.
17 Continental Airlines, “History 1991 to Now,” online at www.continental.com/company/history/1991-now.asp

(viewed 11/18/02).
18 Federal Aviation Agency Press Release, “Secretary Mineta Re-Opens Skies to General Aviation,” 11/14/01; reference

DOT 97-01, online at www2.faa.gov/index.cfm/apa/1062?id=1408 (viewed 11/13/02).

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In the last four months of 2001, Continental Airlines, the fifth largest airline
company in the United States (as measured by 2001 revenue passenger miles), lost $189
million despite a $417 million grant from the federal government.19 During the first nine
months of 2002, Continental’s net loss was $342 million,20 with Continental losing
approximately $1.3 million each day of the year; by year’s end, Continental’s net losses
totaled $451 million.21 On August 11, 2002, U.S. Airways filed for Chapter XI bankruptcy
protection.22 Given this turbulent environment, will Continental Airlines be able to
survive and prosper?

The Environment
Continental Airlines is battling for its very survival in an extremely turbulent

broad environment that has forced many carriers, including the mighty United Airlines,
to the brink of bankruptcy.23 In fact, the entire commercial air transport industry is mired
in a complex web of socio-cultural, economic, technological, political, and competitive
forces. Competition is fierce, and investments needed to succeed are high. At the end of
2002, air carriers were still trying to figure out how to navigate the shock waves resulting
from the terrorist attacks of September 11, 2001, as well as a sea change in business travel
patterns that may well be permanently undermining the legacy carriers’ longstanding
business models.

Industry Overview
The world’s airlines carry 1.4 billion passengers per year24, and the airline industry

is a significant part of the American economy. In 2000, the U.S. airline industry launched
over 24,600 flights a day, employed roughly 680,000 people, and recorded $129.5 billion
in revenues.25

Since 1978, when federal government regulation of domestic fares and markets
ended with the Airline Deregulation Act,26 passenger demand for air transportation has

19 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, pp. 6, 18.
20 Continental Airlines. Securities & Exchange Committee Quarterly Report for Continental Airlines, Inc. for period ending

9/30/02. p. 3.
21 Source: Continental Airlines, Inc. 2002 Annual Report, p. 22.
22 Carey, Susan. “UAL Posts $889 Million Loss for Third Quarter,” The Wall Street Journal, 10/21/02, p. A3. Also Power,

Stephen and Susan Carey. “Panel Rejects United’s Call for Federal Loan Guarantee,” The Wall Street Journal Online,
12/5/02; online at http://online.wsj.com/article/0,,SB1039043151540787993,00.html (viewed 12/5/02).

23 Associated Press, “United Airlines, Mechanics Hoping to Prevent Bankruptcy,” 12/1/02; online at
www.cnn.com/2002/TRAVEL/12/01/united.airlines.ap/index.html (viewed 12/3/02).

24 Goeldner, Charles R. and J.R. Brent Ritchie. Tourism: Principles, Practices, Philosophies, 9th Edition. Hoboken, NJ: John
Wiley & Sons. P. 124.

25 Ibid. p. 125.
26 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, p. 21.

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grown at an average rate of 4% per year. As the Air Transport Association reported in
1999, “Now there are more than twice as many people fly today as did two decades ago,
and at prices that have dropped dramatically. These facts reflect that the airline industry
is an economically vibrant, highly competitive and productive industry.”27

During 2000, the U.S. airline industry provided services to 666.2 million
passengers. However, in 2001, the number of passengers dropped to 622.1 million, a
decrease of 6.6%.28 The airline industry measures its capacity in terms of Available Seat
Miles (ASMs), and its utilization of that capacity in terms of Revenue Passenger Miles. By
comparing the two, the industry calculates its passenger load factor. Exhibit 2 describes
recent trends in U.S. airline traffic and operations29.

The airline industry has a clear size-based classification structure, according to

airline revenue base:30

Major Airlines: Carriers that have annual revenues exceeding $1 billion. The
leading nine major airlines in the U.S. include United Airlines, American Airlines,
Delta Air Lines, Northwest Airlines, Continental Airlines, Southwest Airlines, US
Airways, America West Airlines, and Alaska Airlines.

National Airlines: Carriers that have annual revenues that between $100 million
and $1 billion. National airlines include JetBlue, Frontier, Midway, and others.

Regional Airlines: Carriers that have annual revenues of less than $100 million.
Regional airlines include AccessAir, Ameristar Jet Charter, Falcon Air Express,
Laker Airways, Sun Pacific, and many others.

Commercial airlines have two major types of customers: travel passengers, and
clients who ship cargo. The U.S. airlines transport more than 665 million passengers and
nearly 30 billion ton miles of cargo annually; in the U.S., more than 1.8 million passengers
fly every day. On average, airlines generate 75% of their revenues from passengers, while
15% of revenues are from cargo transport fees; another 10% in revenue is generated from
additional fees, such as the sale of in-flight alcoholic beverages and entertainment.31
Airlines compete for travel passengers by offering products differentiated by destination,

27 Air Transport Association of America, Facts & Figures of the U.S. Scheduled Airlines 1999 , online at www.air-
transport.org.

28 Air Transport Association of America, 2002 Annual Report, p. 6.
29 Ibid., p. 7.
30 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines. March 28, 2002. p. 16.
31 Air Transport Association of America, “Keeping Customers First,” online at www.customers-first.org (viewed

11/17/02).

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class of service, frequent-flyer programs, change restrictions, in-flight amenities–and, of
course, price.

The industry is characterized by high fixed costs. Roughly 80% of airline costs are
fixed in that they do not vary depending on customer demand.32 Equipment costs are
very high, especially for aircraft, which require large maintenance expenditures. Airlines
also make significant investments in facilities infrastructure, such as airports and
maintenance facilities. In 2001, “the total value of these investments, net of depreciation,
reached $89.6 billion of assets totaling $158.4 billion,” reports the Air Transport
Association of America.33 Labor costs, including both fixed and variable components,
absorb about 40% of total industry revenues, and represent the largest portion of
expenses for an airline. While they continue to rise sharply, industry watchers report no
sign of labor productivity improvements since 1996.34 After salaries and wages, the
second-largest operating cost for airlines is jet fuel.

The Airline Industry Changes: Deregulation (1978)
Prior to 1978, the Civil Aeronautics Board (CAB) regulated airline activity in the

U.S., controlling routes that airlines could fly and the fares they could charge. The federal
Airline Deregulation Act of 1978 phased out the federal government’s control over
airfares and services in the domestic market. Since 1978, market forces have determined
the price, quantity and quality of domestic air services. The act sparked a fundamental
shift in the history of the airline industry, leading to improved service, lower airfares, and
increased air travel–all benefits derived from free-market competition.35

Deregulation opened the airline industry market for existing airlines as well as
newcomers, since airlines no longer needed to apply to the CAB for authorization to fly
the routes they wanted to operate. As a result, the airline industry has witnessed the
entry (and exit) of many low-fare carriers, as well as several established airlines that
could no longer compete in the new environment, such as Pan Am and Eastern Airlines.36

Increased competition brought more scheduled U.S. passenger carriers and more
convenient travel options than what was available 20 years ago. In 1978, there were 30
scheduled passenger airlines classified by the Civil Aeronautics Board; after deregulation,

32 Dr. Rob Britton, Managing Director of Advertising, American Airlines; lecture at Cornell University School of Hotel
Administration, 11/22/02.

33 Air Transport Association of America, 2002 Annual Report, p. 13.
34 Ibid., p. 2, 12.
35 Kahn, Alfred E., “Airline Deregulation,” The Concise Encyclopedia of Economics, online at

www.econlib.org/library/Enc/AirlineDeregulation.html (viewed 12/4/02).
36 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 8.

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the number of scheduled U.S. carriers peaked at 49 in 1985. At the end of 1998, there were
42 large scheduled certificated air carriers.37

However, significant operational limits hamper the development of new airlines.
At an increasing number of major airports, the lack of access to gate stands in the way of
new entrants and becomes the new entry barrier.38 Existing leases for gate access give
leaseholding airlines exclusive rights to an airport’s gates over a long period of time,
commonly 20 years, which prevent entrants to a market access to these gates. In some
cases, major airlines that have the exclusive-use gate leases will sublease to other airlines,
including startup airlines, at non-preferred times and at high premiums.39

Since deregulation, consumers have experienced some dramatic changes in the
level of air service in most U.S. communities. The General Accounting Office defines
service levels for a given community as a combination of several factors: number of
departures, number of available seats, number of destinations served non-stop from the
community, and number of jet departures (compared to the number of turboprop
departures). “In general, airports serving larger communities have benefited from a
greater increase in overall quality of air service . . . than those serving smaller
communities.”40 Thanks to the hub-and-spoke operating structure favored by the major
airlines–particularly such legacy carriers as American, Delta, Continental, and United–
domestic destination availability has increased by 35% to 40% over the last 20 years.41

During the period 1978 through 1998, domestic Revenue Passenger Miles (RPM)
grew at almost double the rate of the growth of the economy, while regional RPMs grew
at over five times the rate. (From 1978 to 1998, average GDP increased 2.6% per year,
while air carrier RPMs increased 4.8% and regional RPMs increased 14.3%.) International
travel has grown at an even faster pace than domestic travel: In the past 20 years,
international RPMs have grown at 1.5 times the rate of growth of domestic RPMs,
reaching 7.0% per year.42

Increased competition following deregulation also resulted in lower airfares for
passengers. The U.S. General Accounting Office reports that, overall, average airfares
declined by about 21% in constant dollars between 1990 and second quarter 1998.43 Price
competition was unleashed by deregulation, according to the Air Transport Association:

37 U.S. General Accounting Office. “Barriers to Entry Continue to Limit Benefits of Airline Deregulation,” 5/13/97.
38 Ibid.
39 Ibid.
40 United States General Accounting Office. “Airline Deregulation: Changes in Airfares, Service Quality and Barriers to

Entry,” March 1999. p. 11.
41 Kahn. “Airline Deregulation,” The Concise Encyclopedia of Economics.
42 U.S. General Accounting Office. 20 Years of Deregulation, 1978 to 1998, 1998.
43 U.S. General Accounting Office. Airline Deregulation: Changes in Airfares, Service Quality and Barriers to Entry, March

1999. p. 2.

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By the end of the 1990s, roughly 90% of all passenger miles traveled were traveled on
discounted-fare tickets, at an average discount of 65% off the posted coach fare.44

Another Sea Change: The Terrorist Attacks of September 11, 2001
The terrorist attacks on New York City’s World Trade Center and the Pentagon on

September 11, 2001, changed the airline industry forever. In an unprecedented move by
order of the federal government, the U.S. airline system was suspended for several days
following the attacks. According to the Air Transport Association, the industry suffered
losses of approximately $1.4 billion as a result of the shutdown. Furthermore, the global
airline business lost $11 billion in 2001, with losses in the U.S. market along reaching $9
billion. The ATA’s forecast that the U.S. airline industry would lose another $6 billion in
2002 as the turbulence from 9-11 persisted45 proved to be a conservative estimate;
ultimately, the net losses incurred by the top ten U.S. carriers alone totaled $11.3 billion in
2003.46

Influential Forces in the Industry Environment
Customers

Airline passengers include business travelers and leisure travelers. Business
travelers accounted for about 34% of domestic airline revenue in 2000 and 36.3% in 1999,
but account for only about 15% of domestic RPMs (Revenue Passenger Miles) and some
10% of capacity.47 Business travelers have historically paid a premium for travel: Despite
leisure travelers accounting for around 85% of RPMs, their fares only generated 66% of
the revenues.

Leisure travelers are traditionally price-sensitive, so airlines have discounted fares
for leisure travelers – typically requiring advance purchase and including restrictions on
changes and refunds. Airlines will also offer deeply-discounted last-minute fares to
leisure travelers to fill capacity on undersold flights.

Travel-agent intermediaries are the primary distribution channels of air travel to
customers, generating roughly 70% to 80% of all airline bookings. Some 135,000 travel
agents and 29,000 travel agencies operate throughout the United States.48 However, the
rate of bookings conducted through travel agents is declining as travelers have easier
access to direct travel bookings through online services. 49

44 Kahn. “Airline Deregulation,” The Concise Encyclopedia of Economics.
45 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 1.
46 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 9/25/03, p. 1.
47 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 3.
48 Ibid., p. 20.
49 Ibid.

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Suppliers
In the large commercial aircraft market, there are two main worldwide

manufacturers: Boeing and Airbus. For smaller regional jets, the main suppliers are
Embraer, Bombardier, and Saab. Even though these aircraft manufacturers’ business
success is significantly intertwined with the success of the commercial airline industry,
they also make significant sales to governments and military establishments. For
example, 60% revenue of Boeing comes from commercial airplane and 39% from
integrated defense system funded by government and 1% from others.50

When acquiring the aircraft, airlines also deal with multiple other vendors,
selecting options such as engines–essentially from Pratt & Whitney, General Electric, and
Rolls Royce–interiors, and entertainment systems vendors. Most airlines also work with
specialty finance companies who structure financing in loans or leases. GE Capital,
Boeing Capital, International Lease Finance (ILFC), GATX, and CIT are the leading
financiers of aircraft in the world.

Fuel supply enables airlines’ daily operation, and it is a significant expense for the
industry. In 2001, fuel costs accounted for about 14.9% of total airline expense. For each
airline, fuel expenditures can vary significantly, depending on the age and fuel efficiency
of the fleet, and the length of flights conducted by the airline. Variations also come from
the fluctuation in oil prices on the world’s commodity markets. Fuel cost in 2001 was
lower than in 2000, only 14.9% of total expenses in 2001 compared to 15.4% in 2000.
Standard & Poor’s reported in early 2002 that “jet fuel price changes are less important
today than they were in 1980, when fuel accounted for 30% of industry cost.”51

Most airline carriers have to hedge their fuel costs by striking deals with suppliers
or by buying and selling futures on the commodities market. In this way, by setting up
financial options, they can limit the fluctuations in fuel prices and have more predictable
operating costs.

Another key supplier in the airline industry is the labor unions. Wages and salaries
are the single largest operating expense of any airline. The industry is highly unionized,
leading to inflexible wage costs and labor structures. There are three large unions in this
industry: the Airline Pilots Association; the International Association of Machinists and
Aerospace Workers; and the Association of Flight Attendants. Over the last business
cycle, from 1992 to 2001, labor costs in the airline industry increased dramatically and
gave airlines a heavy financial load. For example, “pilot costs increased by 127% at
Continental, 79% at America West, and 59% at American.”52 Labor negotiations between

50 The Boeing Company, online at www.boeing.com, 11/13/02.
51 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 3
52 Unisys, Unisys R2A Scorecard: Airline Industry Cost Measurement, Vol. 1, Issue 1, Oct. 2002; p. 14.

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the airlines and unions consume significant time and effort by management and union
representatives, as “at any given time, a half-dozen or more contracts may be in
negotiation.”53 Negotiations and concessions at one airline typically causesunions at the
other airlines to demand reopening of negotiations to match industry standards–and
these tactics and negotiations often causes strife and contention in the industry. Some
newer entrants to the industry, such as JetBlue, are not yet unionized, giving them a
significant competitive advantage.

Competitors
The airline industry is highly competitive, with numerous airlines operating in all

sectors. In the U.S. alone, according to the Air Transport Association, at the end of 2001
there were 15 major airlines (with annual revenues exceeding $1 billion), 39 national
airlines (revenues from $100 million to $1 billion), and 46 regional airlines (revenues
under $100 million).54 In addition, U.S. airlines compete with non-U.S. airlines for
international routes and for alliances that allow customers to find continuing services in
routes not covered by U.S. airlines.

In general, there are two basic business models for major U.S. airlines: a full-
service model based on hub-and-spoke route maps, and a limited-service, low-cost point-
to-point model. In general, airlines that existed prior to the 1978 Deregulation Act operate
in the hub-and-spoke model. This is often called the “legacy” model.55 Other airlines,
notably Southwest Airlines, developed the low-cost point-to-point model after
deregulation.

Legacy carriers may have profound structural disadvantages thanks to the high
cost of unionized labor, overly complex route networks, and decades of intensive
economic regulation in both the United States and Europe56–which is why newly created
airlines like jetBlue Airways are avoiding the limited flexibility imposed by the hub-and-
spoke structure by basing their business models on the Southwest model. This new breed
of low-cost carriers boasts a less expensive, less unionized workforce as well as the more
flexible point-to-point (rather than hub-and-spoke) route structure. In addition to jetBlue,
this alternative business model is serving a growing list of profitable carriers like the UK’s
easyjet, Canada’s WestJet, and Ireland’s Ryanair,57 which are able to compete toe-to-toe
with legacy carriers in many major markets. Their presence benefits even consumers who
don’t choose to fly them simply by exerting downward pressure on prices.

53 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines. March 28, 2002. p. 19.
54 Air Transport Association of America, 2002 Annual Report. p. 19.
55 For instance, see comments about “legacy carriers” on p. 3 of Unisys’s Unisys R2A Scorecard: Airline Industry Cost

Measurement report, Vol. 1, Issue 1, Oct. 2002.
56 Dr. Rob Britton lecture at Cornell University, 11/22/02.
57 Unisys, Unisys R2A Scorecard: Airline Industry Cost Measurement, Vol. 1, Issue 1, Oct. 2002, p. 3.

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Despite the inherent competitiveness of this industry, airlines do work together
when part of alliance and strategic partnerships. Partnering with one or more competing
or complementary carriers allows airlines to offer more services–a broader route network
serving more destinations, increased flight frequency, better frequent-flyer programs–at
the same time they expand their access to customers and lower their own costs by sharing
airport infrastructure, engaging in joint procurement, developing cooperative advertising
budgets, and much more.58 Benefits depend on the nature of the alliance–whether it’s a
marketing or code-share agreement, or even a franchise or equity-transfer relationship. In
order to provide international service, for instance, having a global partner means a U.S.
airline can feed traffic through to this partner through an international hub, generating
cost savings and smooth connection for all parties. For example, Northwest and China
Air have developed a code-sharing strategy to exploit the promising China/U.S. line. In
the domestic market, airline companies may share cargo and passenger terminals to save
cost and consolidate sales. Continental Airlines has an extensive marketing alliance with
Northwest Airlines that includes code-sharing and shared frequent-flyer programs.

But airlines also continue to compete fiercely for client bases on particular routes,
many times in spectacular price wars. When jetBlue announced a deeply discounted
tickets on Oakland, CA to Washington D.C. route in August 2002, it triggered a new
“price-war” on east-west coast line. United Airlines responded immediately by matching
its fares at the same price level as jetBlue, in the hopes that United will be able to
maintain higher fares on other non-competing flights. These price wars have put pressure
on airfare yields since deregulation occurred in 1978.

One way to avoid price wars is to develop frequent-flyer loyalty programs. In
many cases, the privileges that come with membership in these reward programs–
upgrades, priority on standby, access to business lounges, and so on—are enough to
convince members to fly with an airline at a somewhat higher fare than one offered by
the competition on the same route.

Flying in Turbulence: The Broad Environment
It’s scarcely news that 2001 was the worst year ever for U.S. airlines.

– Unisys R2A Transportation Management Consultants 59

External factors have a tremendous impact on any industry–and possibly more on
airlines than most industries, due to their high fixed costs and limited flexibility in
adapting to changes.

58 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 14.
59 Unisys, Unisys R2A Scorecard: Airline Industry Cost Measurement, Vol. 1, Issue 1, Oct. 2002; p. 1.

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Socio-Cultural Forces
Baby boomers believe they possess an inalienable right to travel. Real median

family income (after adjusting for inflation) has increased by 11.8 percent since 1982
alone.60 And as post-World War II babies have matured into affluent boomers with a
great deal more discretionary income than previous generations enjoyed, they are using
those extra dollars to travel more.61 Younger generations have also been bitten by the
travel bug; as travel has become more accessible and affordable, they consider a long-
haul flight to Eastern Europe or Southeast Asia to be just as viable as a road trip to the
Grand Canyon.62 With increased globalization of business, international travel has also
become extremely common for business travelers. According to a 1997-1998 Gallup poll,
81% of the entire U.S. adult population had flown at least once, and two out of every five
U.S. citizens flew during 1997-1998.63

However, seasonality in travel demand is a constant issue for airlines. Temporal
changes in patterns of travel demand result in overdemand for air travel in some periods
and low load factors in others.64 The airlines’ product – seat miles – are highly perishable,
and excess capacity is a chronic problem. In fact, American Airlines reports that 30% of
its seat capacity went unused in 2001.65

Demand for flights in all seasons has turned downward in the wake of the terrorist
attacks of September 11, 2001. North Americans felt a new vulnerability to terrorism
which they had largely been able to dismiss as somebody else’s problem. Airlines – the
vehicle of choice for the most devastating terrorist attack on U.S. soil ever – have borne
the brunt of travelers’ resulting security fears. The tangible results have been devastating:
The airline industry experienced a record loss of $7.7 billion in 2001, with air traffic down
in all domestic and international markets a total of 5.9 % – the largest drop in air traffic in
U.S. history.66 All of the major domestic carriers with the exception of Southwest Airlines
experienced substantial financial losses in 2001.67 Similar (albeit less devastating) declines
also occurred following the TWA and related hijackings in 1985-86; the Pan Am
Lockerbie disaster of 1988; and the Gulf War in 1990-91.

As a result, carriers have been forced to respond with cuts in service; available seat
miles were down 2.8% in 2001 over the previous year, with the number of scheduled

60 Goeldner and Ritchie, Tourism, p. 307.
61 Neilsen, Stefan K. “Determinants of Air Travel Growth,” World Transport Policy & Practice, Vol. 7, No. 2, 2001; pp. 28-

37.
62 Ibid.
63 Goeldner and Ritchie, Tourism, p. 127.
64 Ibid., p. 124.
65 Dr. Rob Britton, Managing Director of Advertising, American Airlines; lecture at Cornell University School of Hotel

Administration, 11/22/02.
66 Air Transport Association of America, 2002 Annual Report. p. 9.
67 Unisys, Unisys R2A Scorecard: Airline Industry Cost Measurement, Vol. 1, Issue 1, Oct. 2002; p. 1.

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flights are down by about 600 a day. Furthermore, carriers shrunk their fleet size by
decommissioning less fuel-efficient and more maintenance-intensive aircraft, and by
postponing deliveries on roughly one-third of the new aircraft that they had planned to
take delivery on in 2002 and 2003.68

Based on the recovery pattern that followed each of these blows, the airline
industry is facing a slow turnaround; it is likely to take some time to build air travel back
to what are considered “normal” levels of demand.69 The outbreak of war in Iraq in early
2003 made the possibility of quick recovery little more than a pipe dream for the suffering
air carriers.

Further complicating matters post-September 11th has been the increased security
measures at airports, which can substantially lengthen flight-departure lead time –
sometimes by as much as an hour or more –and add to an increased distaste for
unnecessary air travel as travelers find themselves subjected to multiple body and bag
searches. Furthermore, extra security taxes have been passed on to passengers,70 resulting
in increased ticket prices without any revenue benefit for the already strained carriers.
Many short-haul travelers are resorting to other forms of travel in order to avoid such
delays and hassles, such as the train;71 Amtrak’s Acela trains, for example, can deliver
travelers point-to-point along Northeast Corridor routes such as New York to Boston or
Washington, D.C., in roughly the same amount of time it takes to fly.

Technological Forces
The Internet has revolutionized the way airline passages are bought and sold, and

has opened up a whole new world of direct distribution for carriers. Airlines can sell
directly to consumers via their own websites at a fraction of the cost of employing
customer service agents to take call-center reservations. Furthermore, easy-to-navigate
websites with up-to-the-minute availability, pricing, schedule, and fleet information as
well as one-click reservations have diminished the need for intermediaries; as a result,
carriers have been able to cut back on base commissions to travel agents.72 According to
Standard & Poor’s, most major airlines had cut their commission rates to 5% of fares, with
a $20 cap on domestic round-trip fares, by late 2001 (down from 8% of fares with a $50

68 Air Transport Association of America, 2002 Annual Report. p. 10.
69 Goeldner and Ritchie, Tourism, p. 125.
70 The Bulletin, “The Price of Airport Security,” online at http://bulletin.ninemsn.com.au/bulletin/eddesk.nsf/

All/4DD4F67689A6B1B3CA256C47001FB3DC (viewed 12/2/02). Also ABC KGO-TV, “The Price of Security,”
10/18/02, online at http://abclocal.go.com/kgo/news/101801_nw_airport_baggage.html (viewed 12/02/02).

71 About.com, “Airport Estimated Wait Times,” online at http://businesstravel.about.com/library/
weekly/aa010102a.htm (viewed 12/3/02).

72 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, pp. 11-12. Also Goldman Sachs Global Equity
Research, Airlines: United Statess, 4/23/02, p. 12.

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cap); total commissions paid in 2001 accounted for approximately 4% of airline industry
costs, down from 6.2% in 2000 and 10.9% in 1993.73

However, airlines have discovered a serious dark side to the new distribution
frontier and transparency of pricing information. Now that anyone with a web browser
has access to the same global distribution systems as travel agents via such websites as
Expedia, Travelocity, and Orbitz, airfare pricing is now approaching the economist’s ideal
of “perfect” information.74 Thus, the legacy carriers must be willing to match their
competitors’ prices – including the prices offered by their more flexible low-cost
competitors, such as Southwest, jetBlue, easyjet, and a variety of regional carriers – or lose
market share.75 As a result, leisure airfares were running at approximately 20% below
their five-year average by mid-2002.76

Technology has dramatically changed all aspects of airline operations, from
reservations through engineering; the result has been reduced labor costs, greater
efficiency, and improved customer service.77 Reservation systems have evolved from
telephone operators to airline websites, while airlines now have the ability to trace
luggage is a matter of minutes rather than days. “Ticketless travel” – e-ticketing – has
been embraced by customers and airlines alike for its ease-of-use and cost-effectiveness.
United Airlines reports that electronic ticketing costs 50 cents per ticket, while issuing a
paper ticket costs $8, since 14 additional accounting and processing procedures are
required; the other major carriers are experiencing similar cost benefits from e-ticketing.78

Self-service electronic check-in, automatic upgrades for loyalty-program members,
and other innovations have also become a norm for travelers. Such innovations have
helped to allay travelers’ frustrations with increased security measures and other post-
September 11th bureaucracies associated with flying.

Global Economic Forces
Had terrorists not attacked, the major hub-and-spoke carriers

would still be facing the competitive Waterloo today.

– Holman Jenkins, The Wall Street Journal79

While it’s easy for the airline industry to place the blame for its economic troubles
on the trauma of September 11th, the reality is that corporate belt-tightening and the

73 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02. p. 20.
74 Dr. Rob Britton lecture, Cornell University, 11/22/02.
75 Ibid.
76 Goldman Sachs Global Equity Research, Airlines:United States, 4/23/02, p. 9.
77 Ibid.
78 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02; p. 12.
79 Unisys, Unisys R2A Scorecard: Airline Industry Cost Measurement, Vol. 1, Issue 1, Oct. 2002; p. 2.

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prevailing economic recession had been putting enormous financial pressure on the
airlines since early 2001. As a result, major carrier revenues were already in steep decline
in the first six months of that year.80 However, financial pressure on airlines was
exacerbated by September 11th, when air traffic was completely stalled for days, followed
by an unprecedented decline in ticket sales. The downturn in business travel had already
begun in early 2001, when corporate earnings fell. “Based on information from a sampling
of ATA member airlines, domestic business traffic fell 5.5% during the first eight months
of the year [2001], while personal and pleasure traffic increased 5.1%. Over the last four
months of [2001], the decline in business traffic quadrupled to 24.2% and personal
pleasure traffic reversed its course, falling 18.0%.”81

Furthermore, cost-conscious corporations have become newly price sensitive.
Businesses are no longer willing to pay the exorbitant full fares that they used to consider
a fact of life in the days before the economic downturn took hold and scandal rocked the
corporate world. Companies have also realized a new willingness to rely on “virtually
there” technologies such as e-mail, video conferencing, and instant messaging in lieu of
actually sending their employees on the road for face-to-face meetings around the globe.
As a result, business travel–the most lucrative business in the industry–only generated
about 30% of airline revenues in 2001, down from roughly 52% of total airline revenues in
1982, and about 15% of total passenger revenue miles (RPMs) in 2001 according to
Standard & Poor’s estimates.82 While the horizon got a little brighter in 2002–with
business travel accounting for 37% of aggregate industry revenues and 21% of RPMs,
according to Standard & Poor’s83—a return to historic levels is unlikely.

All signs seem to indicate that the recession-era decline in business travel,
combined with the new transparency in pricing available online and the decline in air
travel due to fears of terrorism, likely signal a permanent sea change in both business and
leisure travel purchasing patterns. These fundamental shifts have lead to the
commodization of airlines, with price–rather than competitive advantages in service–
being the primary driver behind consumer behavior.84 Carriers haven’t given up on
creating competitive advantage for themselves, however; most airlines currently see
frequent-flyer loyalty programs targeted to keep regular customers coming back to be
their best long-term hedge against commodization.

Further aggravating the industry’s financial problems are high fixed costs, which
allow airlines little elasticity, or freedom, to shrink and grow as demand dictates.85 As a

80 Ibid.
81 Air Transport Association of America, 2002 Annual Report. p. 9.
82 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02; p. 15.
83 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 9/25/02; p. 18.
84 Dr. Rob Britton lecture at Cornell University, 11/22/02.
85 Ibid.

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result, enormous losses resulting from the convergence of the recession pattern,
increasing price competition, and the downturn of demand resulting from September
11th have driven cash flows deeply into negative territory, and the overall health of the
industry is threatened.86 U.S. carriers have laid off 80,300 employees post-September 11;
the largest layoffs occurred at American Airlines and United Airlines, who furloughed
20,000 employees each, followed by US Airways (11,000 employees), Northwest Airlines
(10,000), and Continental (8,500). Only Southwest Airlines and Alaska Airlines did not lay
off staff.87

Uncertainty in the price of oil is a major destabilizing factor. While jet fuel prices
actually declined from $0.83 to $0.73 per gallon from 2001 to 2002, Goldman Sachs’
Energy Research Group reported that a decline in available inventories would make oil
prices increasingly volatile in the future.88

Political & Legal Forces
Few other industries are as dependent on world governments as the airlines

industry.89 Despite the end of deregulation in 1978, U.S.-based airlines continue to answer
to governmental agencies: The Federal Aviation Administration (FAA), an offshoot of the
Department of Transportation, is the industry’s primary regulatory body, policing the
safety, labor, and operating procedures as well as aircraft fitness and emissions levels.90
The most recent trend from the FAA has been the opening of new gate slots and
expanded landing rights at congested airports.91

The Air Transport Association of America (ATA) is the cooperative trade
association maintained by the domestic airlines that, in effect, serves as the industry’s
own self-policing agency, focusing largely on issues of safety, security, technological
innovations, and cooperative industry-wide service improvements. A similarly
structured agency, the International Air Transport Association (IATA), serves as the
global self-regulating body for the worldwide air transport network.92

U.S. airlines are subject to whatever local regulations are in place whenever they
fly international skies. The degree of regulation varies from country to country; formal

86 Air Transport Association of America, State of the U.S. Airline Industry: A Report on Recent Trends for U.S. Air Carriers,
2002-2003; online at www.airlines.org/public/industry/bin/state , pp. 1, 11.

87 Air Transport Association of America, 2002 Annual Report, p. 2.
88 Goldman Sachs Global Equity Research, Airlines: United States, 4/23/02, p. 12.
89 Dr. Rob Britton, Managing Director of Advertising, American Airlines; lecture at Cornell University School of Hotel

Administration, 11/22/02.
90 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 21.
91 Federal Reserve Bank of San Francisco, “FRBSF Economic Letter: Competition and Regulation in the Airline

Industry,” 1/18/02, online at www.frbsf.org/publications/economics/letter/2002/el2002-01.html (viewed 12/4/02).
92 Goeldner and Ritchie, Tourism, p. 129-130, 589, 591.

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bilateral accords govern reciprocal landing rights, the number of international carriers
that can operate within the country, and other matters93–and the reins on the
international operation of U.S. carriers can be tight.

But the U.S. had signed “open skies” agreements with nearly 100 countries as of
2002, reducing economic regulations, lower entry barriers, and open the playing field for
code-sharing and other strategic partnering alliances between U.S. and international
carriers. Still, some legislators have tried to regulate competition by curbing the
formation of global alliances, especially those between U.S. and European Union
carriers,94 and restricting the foreign ownership of U.S. airlines.95 Still, Standard & Poor’s
reported in 2002 that “international deregulation seems unstoppable and it will follow the
pattern seen in the U.S. industry.”96

The Internal Organization
During this past year of unimaginable challenges, Continental relied even more

heavily on the fundamentals that have made us successful. Although no one could

have anticipated the events of last year, our culture of Working Together

developed over the last years, including relationships with employees, customers,

vendors, and distribution partners, proved to be our most valuable resource for

weathering the storm precipitated by the terrorist attacks of Sept. 11.

– Gordon Bethune, CEO, and Larry Kellner, President97

Continental Airlines. is a major U.S. air carrier engaged in the business of
transporting passengers, cargo, and mail. As of January 31, 2002, Continental flew to 123
domestic and 93 international destinations and offered additional connecting services
through domestic and foreign alliances. These destinations are serviced by Continental;
by Continental’s wholly owned subsidiary, Continental Micronesia, Inc. (CMI); and by
ExpressJet Airlines, Inc., doing business as Continental Express. Continental does have a

93 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 21.
94 Goldman Sachs Global Equity Research, 4/23/02.
95 Federal Reserve Bank of San Francisco, “FRBSF Economic Letter: Competition and Regulation in the Airline

Industry.”
96 Corridore, Jim. Standard & Poor’s Insdustry Surveys: Airlines, 3/28/02, p. 14.
97 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, p. 3.

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controlling interest in ExpressJet, holding 53.1% of its shares, following an initial public
offering (IPO) for ExpressJet in April 2002.

Continental is the second largest U.S. carrier to Latin America and serves more
destinations in Mexico than any other U.S. airline. Continental is the largest carrier in the
New York City metropolitan area and operates the only hub in the region (across the
Hudson River from Manhattan in Newark, N.J.).

Strategic Direction
Our goals are simple–they are our customers’ goals. We continue to deliver a

high-quality product each and every day, getting our customers where they want

to go, on-time and with their bags, while providing pre-flight and in-flight service

that is globally recognized for consistency and excellence.98

Continental Airlines has clearly defined set of goals that portray their strategic
direction. Theirs is a simple, straightforward, and flexible mantra. The Go Forward Plan
plainly explains what the company’s goals are, what the challenges are it faces, and how
the company will measure success.

The Go Forward Plan is a four-pronged approach:

• Fly to Win — The Market Plan
• Fund our Future — The Financial Plan
• Make Reliability a Reality — The Product Plan
• Working Together — The People Plan

In practice since 1995, the “Go Forward Plan” has enabled Continental to achieve one of
the most impressive turnarounds in American corporate history.

Fly to Win (The Market Plan)
Achieve above-average profits in a changed industry environment. Grow the airline

where it can make money and keep improving the business/leisure mix. Maximize

distribution channels while reducing distribution costs and eliminating non-value-

added costs.99

98 Ibid., p. 4.
99 Ibid., p. 5.

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Continental’s marketing plan focuses on meeting the needs of the changing market
to maximize profits for stakeholders. Continental concentrates on flying to cities where
people want to go, and doing so in a clean, safe, and reliable manner. Continental
leverages hubs with significant market strength that generate large amounts of revenue–
namely New York City; Houston, TX; Cleveland, OH; and Guam in the Pacific.

Continental wants to provide the products and services that customers value, such
as new airplanes with large overhead baggage bins, an award-winning frequent flyer
program, and good food. The airline uses technology to eliminate non-value-added costs.
They have updated their Continental.com website so customers can book flights, review
their frequent-flyer accounts, and check flight status all from a personalized home
page.100

Funding Our Future (The Financial Plan)
Manage our assets to maximize stockholder value and build for the future.

Reduce costs with technology. Generate strong cash flow and improve financial

flexibility by increasing our cash balance.101

“Fund the Future” lays the foundation for Continental’s profitable growth by
focusing on strengthening their balance sheet, reducing fleet age, and building and
financing new hubs.

The events of September 11, 2001, has had a staggering effect on Continental’s
financial health. The subsequent Stabilization Act provided Continental with $400 million
in direct grants, out of a total of $5 billion granted to the industry, to cover the losses
caused by the government-imposed shutdown and the terrorist attacks. The act also
authorized up to $10 billion in loan guarantees, an offer Continental has yet to apply for.
But the airline has announced a series of cost-saving initiatives that include the continued
grounding of aircraft and a roughly 20% reduction in flight schedules.

Making Reliability a Reality (The Product Plan)
Deliver an industry-leading product we are proud to sell. Rank among the top of

the industry in the key DOT measurements: On-time arrivals, baggage handling,

complaints and involuntary denied boarding. Keep improving our product.102

100 Yahoo! Finance, “Continental Redesigns Web Sit to Offer More Functionality for Customers,” 9/16/02; online at
http://biz.yahoo.com/prnews/020916/dam021_1.html (viewed 11/14/02).

101 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, p. 10.
102 Ibid., p. 13.

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Continental has focused its efforts over the past six years on running a great airline
that takes customers where they want to go safely, on time, and with their bags meeting
them when they get off the plane. The airline has a trophy case full of awards to prove
their success with customer satisfaction. In 2001, Continental was once again ranked
number 1 in on-time performance among major U.S. hub carriers. In 2001, Continental
had an 82.2% on-time arrivals rate and a 99.2% completion factor. They were also named
the Air Transport World’s airline of the year in 2001 for the second time in five years.103

Continental has worked closely with the federal government to increase security at
airports and in airplanes. The number of security screening lanes at hubs has been
increased to reduce waiting time. Cockpit doors have been replaced with stronger, more
impenetrable ones. Continental plans to keep the standards high even with the loss in
demand.

Continental also looks to technology to make air travel quicker, more reliable,
more convenient, and more user-friendly for their customers. Almost 90% of their tickets
sold are e-tickets, and the airline has been aggressive about introducing eService check-in
kiosks, which allow customers to check-in, change seats, request upgrades, or purchase
new tickets at airports where they have a presence.104

Working Together (The People Plan)
Help well-trained employees build careers they enjoy every day. Treat each other

with dignity and respect. Focus on safety; make employee programs easy to use

and keep improving communication. Pay compensation that is fair to employees

and fair to the company.105

Continental strives to be a company whose employees enjoy coming to work every
day and are valued for their contributions. By becoming more involved in company
decisions, working in an environment of civility and respect and receiving performance-
based incentives, Continental’s employees are motivated to keep the airline on top. In
2001, Continental was once again placed in Fortune’s list of the top “100 Best Companies
to Work For”.106

103 Ibid. See Appendix 1 for an expanded list of Continental’s most recent awards.
104 ProQuest, “Continental Introduces ‘New Functionality’ To Its Self-Service Check-In System Airports,” 10/15/02.
105 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, p. 16.
106 Continental Airlines. Press Release, “Continental Airlines Makes the Fortune 100 Best Companies to Work For List

For Fourth Year in a Row.” January 22, 2002. Online. Viewed 11/19/02.

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Ownership Structure
Continental’s stocks are traded under CAL at the New York Stock Exchange.

Continental offers Preferred Securities of Trust, Preferred Stock, Common Stock, and
Treasury Stock.

Preferred Securities of Trust
Trust Preferred Securities are issued in certain structured finance transactions,

generally to raise capital. Trust Preferred Securities pay regular dividends, are immensely
flexible and may be converted into shares of Common Stock.

In November 2000, Continental Airlines Finance Trust II, which is wholly owned
by Continental, completed a private placement of 5,000,000 6% Convertible Preferred
Securities. These Term Income Deferrable Equity Securities have a liquidation value of
$50 per preferred security and are readily convertible into shares of Class B common
stock at a conversion rate of $60 per share of Class B common stock. Distributions on the
preferred securities are payable by the Trust at an annual rate of 6% of the liquidation
value of $50 per preferred security.107

Preferred Stock
The year 2001 began with the completion of a transaction with Northwest Airlines

that resulted in a single class of common stock and equal rights for all holders of common
stock, while strengthening and extending the broad commercial alliance between
Continental and Northwest to make sure their customers have the long-term benefits of
an expanded network. Judge Dennis Page Hood called the arrangement “a victory for
consumers, who will benefit from lower fares and better airline service. This is the result
we have sought all along. It will ensure that Northwest and Continental remain
independent competitors.”108

Northwest acquired stock representing more than 50 percent of the voting interest
in Continental in 1998 and entered into a separate marketing alliance at the same time. As
of December 31, 2001, one share of Series B preferred stock was outstanding, which is
owned by Northwest Airlines. On September 30, 2002 (3rd quarter), Continental had
$248,000,000 as redeemable preferred stock.

On August 23, 2002, Delta, Continental, and Northwest confirmed that they were
seeking approval for a 10-year marketing pact, which would begin next spring. The
agreement requires Northwest to exchange its Class A Continental shares that carry 10
votes per share for $450 million in cash and a lesser number of Continental B shares that

107 Continental Airlines, Inc. 2001 Annual Report, p. 27.
108 U.S. Department of Justice press release, “Department Announces Tentative Settlement in Northwest-Continental

Lawsuit,” 11/6/00; online at www.usdoj.gov/atr/public/press_releases/2000/6905.htm (viewed 12/02/02).

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carry one vote per share. In addition, Northwest would receive preferred stock in
Continental that would give it the right to veto a pro-posed combination between
Continental and other carriers under certain conditions. After the new deal is completed,
Northwest will retain 7 percent of the voting interest in Continental and less than a 5
percent equity stake. 109

Common Stock
Continental currently has one class of common stock issued and outstanding,

Class B common stock. Each share of Class B common stock is entitled to one vote per
share.

Treasury Stock
A stock repurchase program was started in 1998 under which Continental

repurchased a total of 28.2 million shares of Class B common stock for a total of
approximately $1.2 billion through September 30, 2002. The program was suspended
during 2001.

Employee Stock Purchase Program
All Continental employees are eligible to participate in an employee stock

purchase program under which they may purchase shares of Class B common stock at
85% of the lower of the fair market value on the first day of the option period or the last
day of the option period. During 2001, Continental issued 710,394 shares of Class B
common stock.

Stock Price
The Stock price for the 52-week period ending November 17th, 2002 ranged from $

3.59 and $ 35.25.110 The shares showed a slight growth, in the intervening weeks due to
the steps taken by Continental towards financial recovery. With threats of war with Iraq
and the constantly changing broad environment, however, the market found it difficult to
predict how Continental will be affected next. The airline fluctuated throughout most of
2003, but started a persistent climb toward the $20 mark in the third quarter.111

Operating Characteristics
Continental’s primary business is focused on transporting passengers to various

destinations in the US and throughout the world. Though Continental does provide some

109 Airwise News. “Thre U.S. Airlines Seek Marketing Deal,” 8/23/02; online at
http://news.airwise.com/stories/2002/08/1030123190.html (viewed 12/5/02).

110 As quoted at Yahoo! Finance (viewed 11/17/02).
111 52-week range $4.16 to $21.70 for the 52-week period ending October 29, 2003; as quoted at Yahoo! Finance

(viewed 10/30/03). See Exhibit 5 for annual diluted earnings/loss per share.

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cargo and mail service, this business generates only 6% of the revenue of the whole group
while passenger services generate the remaining 94% of revenue.

Prior to the September 11, 2001 terrorist attacks, Continental flew over 2,500 flights
a day. For the year ending December 31, 2000, Continental had 86,100 million available
seat miles. On September 15, 2001, Continental announced a 20% system wide reduction
in its flight schedule.112 On September 17, 2001, Continental announced complete
discontinuation of service on ten different routes 113 (see exhibit 3). By the end of
December 2001, Continental had reduced its operations to 84,845 million available seat
miles.

In the United States, Continental has designed its route network based on a hub-
and-spoke system. This system allows airlines to bring passengers from lightly traveled
areas, typically in smaller planes, to a single point where passengers can take a second
flight, typically on larger planes. The goal is to generate higher load factors on the longer
flights. This system is the opposite of a point-to-point system, where direct flights connect
each airport to the others. The major airlines also use the hub-and-spoke design to
achieve significant market penetration in the hub cities. Continental has four principal
hubs: Newark, Cleveland, Houston, and Guam. By building hubs in strategic cities,
airlines can build significant market share in their hub locations. For instance, Continental
had a 73.7% market share in Houston and a 56.0% market share in Newark for the 12
months ending June 2001.114

The hub-and-spoke model does create some inflexibilities for an airline. It becomes
almost impossible to develop direct point-to-point route between non-hub cities even if
there is demand for it. Some sources of inflexibility include the difficulty obtaining gate
space in the point-to-point cities, and not having local crews available to service the
routes.

Equipment Fleet
As of December 31, 2002, Continental had 554 aircraft in its fleet, of which

approximately one-fourth are owned and three-fourths are leased.115 Continental has
purchase commitments (orders) for an additional 86 aircraft, and options to acquire 100

112 Continental Airlines, press release. “Continental Airlines Announces Long-Term Schedule Reduction and Furlough
of 12,000 Employees,” 9/15/01; online at www.continental.com (viewed 11/19/02).

113 Continental Airlines, press release. “Continental Airlines Capacity Reduction Ends Service to 10 Cities,” 9/17/01;
online at www.continental.com (viewed 11/19/02).

114 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines, 3/28/02, p. 9.
115 Continental Airlines, Inc. Continental Airlines 2002 Annual Report, p. 21. Also Continental Airlines. Securities &

Exchange Committee Quarterly Report for Continental Airlines, Inc.; own/lease proportions for period ended 9/30/02, p.
14.

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more aircraft. Exhibit 4 details the types of aircrafts and the manufacturers116. It does not
include the 56 jet aircraft and 19 turboprop aircraft that Continental has put out of service
in the aftermath of the September 11, 2001 terrorist attack.

Despite putting scores of aircraft out of service, Continental took delivery of 20
Boeing jet aircraft during the first 9 months of 2002. Continental has been progressively
updating its fleet of aircraft, and reducing the number of models used. “Since the
beginning of 1996, Continental has reduced the number of fleet types from eight to five
(777, 767, 757, 737 and eventually outgoing MD80s) and cuts its average mainline fleet
age to 6.5 years from 13.6 years.”117

Service
Continental has made great strides to improve service performance during the ticketing

and check-in process, both to make the process more efficient for customers as well as to reduce
its own operating costs.118 One of the key measures of service in the airline industry is on-
time arrivals. Continental offers superb performance for on-time arrivals. For all of 2002,
over 84% of Continental’s flights arrived within 14 minutes of the planned arrival time,
compared to an industry average of around 82%.119

Continental Airlines decided, in the wake of September 11, 2001, that they would
not decrease the services they provide during flights, unlike most other major airlines.
Continental continued to offer meals, including hot meals, during their flights. They
continue to offer free magazines to flyers. This continued service may make up for some
of the increased frustration that travelers have with air transportation post-September
11th. The increased security measures have meant longer lines at the airport, waiting to
check in and screen bags, waiting to pass through security checkpoints, and waiting to
board the aircraft while random screening is being conducted.

Financial Concerns
Prior to September 11, 2001, the financial perspective for the U.S. airline industry

as a whole was mired with problems–but these problems were masked by a boom in
travel. As a result, most major airlines posted significant profits during the 1990s.

The financial problems stem from the high fixed costs the industry has, primarily
from equipment costs and expensive union labor contracts. As an example of equipment
costs, JetBlue Airways purchased 10 Airbus A320’s in January 2002, valued in excess of
$500 million.120 In another example of the high industry costs, the pilots at United

116 Continental Airlines, Inc. 2002 Annual Report, p. 21.
117 Engel, Glenn and Gruetzmacher, Michael. Goldman Sachs Global Equity Research: Continental Airlines 6/17/02, p.11.
118 Continental Airlines Presentation to Salomon Smith Barney Transportation Conference, 11/14/02.
119 Continental Airlines Presentation to Salomon Smith Barney Transportation Conference, 11/14/02.
120 jetBlue Airways, Press Release, “JetBlue Orders 10 Airbus A320 Aircraft Valued In Excess Of $500 Million,” 1/14/02.

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Airlines staged a strike in 2000 that cost the airline around $700 million. As a result of the
strike, the pilots received “the most expensive contract in history: An immediate pay raise
of 22% to 28% and a 4.5% annual raise through 2004.”121 Although this is an extreme case,
all airlines must work with a number of different unions – pilots, flight attendants and
mechanists unions especially – which creates high labor cost for the industry as a whole.

As each airline has pursued different equipment acquisition tactics and different
labor relations strategies, the cost structure between different airlines varied widely;
however, most of them were fairly profitable during the 1990s.122 The combined effect of
the economic downturn and the reduced travel after September 11th caused the airline
industry’s finances to veer significantly off course in 2001. Air Transport World estimates
that the global airline industry losses in 2001 were the worst in history, an estimated $11.0
billion, and expected industry losses of $7.5 billion in 2002. For the U.S. airline industry
specifically, ATW estimated losses of $9.0 billion in 2001 and $6.0 billion in 2002;123 In
reality, the top ten U.S. carriers alone shouldered a loss of $11.3 billion in 2002, with
Standard & Poor’s forecasting a narrower $6.4 billion loss for 2003.124 Continental was
operating at about a 75% passenger load factor through 2002, with a breakeven passenger
load factor of nearly 78%.125

Continental generates its revenues through a combination of traffic volumes and
pricing. Continental reduced its flight schedule following September 11th, which resulted
in reduced revenue per seat miles and available seat miles. In addition, Continental
practiced fare discounting in an attempt to generate more demand for its services, and
persuade those who might wish to cancel or delay their travel to fly with Continental. In
one example, Continental offered double miles to frequent flyers, leading to increased
free trips, thereby discounting flights overall.126

As a result, Continental announced a 3.0% decrease in passenger revenue in the
three months ending September 2002, compared to the same period in 2001. The airline
attributes this to “continued traffic and capacity declines and fare discounting following
the September 11, 2001 terrorist attacks and the continuing weak economy. Yield was
3.4% lower…”127

121 “United They Fall,” The Wall Street Journal, 10/21/02, p. A14.
122 McCartney, Scott. “Southwest Sets Standard on Costs,” Wall Street Journal, 10/9/02, p. A2.
123 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines. 3/28/02, p. 1.
124 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines. 9/25/03, p. 1.
125 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines. 3/28/02. p. 33.
126 Continental Airlines press release. “Continental Airlines Offers Double Miles for Its Frequent Flyers,” 11/5/01.
127 Continental Airlines. Securities & Exchange Committee Quarterly Report for Continental Airlines, Inc. for period ended

9/30/02, p. 19.

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The U.S. Congress passed the Air Transportation Safety and System Stabilization
Act (H.R. 2926) on September 22, 2001, in response to the crisis in the airline industry
after the September 11th terrorist attacks. Continental accepted slightly over $400 million
in a grant from the federal government as part of the Stabilization Act. This grant was
considered revenue, to make up for the immediate lost business due to the temporary
suspension of all flights on September 11, 2001. The federal government was also
granting debt guarantees, based on an application review process. Continental had not
applied for any of these guarantees by the close of 2002, but reserved the right to do so in
the future depending on liquidity needs.128

Security costs have increased overall since September 11, 2001. For instance, all
cockpit doors needed to be reinforced, an operation that Continental completed on
October 22, 2001. Continental feels that most of these additional costs cannot be passed on
to the consumer.129 Given the low customer demand for air travel and the substantial
discounts that most air carriers are marketing to customers, airlines will have to absorb
the additional security costs themselves.

In addition to the costs to increase security on Continental’s fleet, the airline is also
responsible for its share in the costs of installing baggage screening equipment in each
airport. These machines, some of which cost $1 million each, will be purchased by the
airlines and operated by the new Transportation Security Agency.130

Continental’s wages and salaries represented 35% of total operating revenues in
2001. Wages have always been the largest expense item for all airlines, as a services
industry requires significant labor investment. Immediately following September 11,
2001, Continental announced that it would furlough 12,000 of its employees. Continental
has been able to reduce this number to about 8,000, but has in any case significantly
reduced its workforce. The costs of this reduction were significant, around $29 million in
severance and continued benefits for furloughed employees.131

Continental has firm purchase commitments for 171 jets, including 67 Boeing jets
and 104 Embraer regional jets.132 The estimated aggregate cost of Continental’s firm
commitments for 67 Boeing aircraft is approximately $2.5 billion. No aircraft deliveries
are planned until the fourth quarter of 2003 and continue through 2008. No financing is

128 Ibid., p. 32.
129 Continental Airlines. Securities & Exchange Committee Quarterly Report for Continental Airlines, Inc. for period ended

9/30/02, p. 28.
130 Corridore, Jim. Standard & Poor’s Industry Surveys: Airlines. March 28, 2002. p. 2.
131 Continental Airlines. Securities & Exchange Committee Quarterly Report for Continental Airlines, Inc. for period ended

9/30/02, p. 15.
132 Embraer regional jet orders were cut to 86 by December 31, 2002, although Boeing mainline jet orders held firm.

Continental Airlines, Inc. 2002 Annual Report, p. 21.

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currently in place for these acquisitions. As for the Embraer regional jets, the estimated
total cost is $2.1 billion.133

Continental has been successful in managing its fuel costs, which account for 14%
of its revenues. There was a significant decrease in fuel costs in 2002 compared to 2001.134
In addition, Continental’s younger fleet is more fuel efficient, further enhancing fuel cost
savings. Another benefit of the younger fleet of aircraft will be lower maintenance costs,
especially when compared to other major US air carriers.

In its 2001 Annual Report, Continental indicated that its goal is to have $1.5 million
in cash on hand, a significant increase from its previous target of $1 million, as a buffer
against operating at a loss for the next few period and against additional unknown
changes to the economy and the airline industry. In its search for the additional cash
balance, Continental decided to sell off part of one of its subsidiaries. As of December 31,
2001, Continental Airlines, Inc. was the parent company of two wholly owned
subsidiaries:

• ExpressJet Airlines, Inc. (formerly Continental Express, Inc.)

• Continental Micronesia, Inc.

In April 2002, Continental conducted an initial public offering (IPO) for 30 million
of the common shares in ExpressJet as a way of increasing the company’s cash balance.
After the IPO, Continental retains a 53.1% controlling interesting in ExpressJet. In
addition, this IPO raised a significant amount of cash for Continental, as net proceeds
totaled $300 million.135 Continental retains the right to liquidate the remaining 53.1% of
its interest in ExpressJet, once the 180-day lock-up period is expired.136 At the present
time, Continental does not plan to sell its remaining ownership stake in ExpressJet,
however it could be used to raise cash if needed at some point in the future.

See Exhibit 5 for five years of financial statements (1998 through 2002) for
Continental Airlines.

Marketing
It’s one thing for a company to know itself–and another thing altogether to be able

to tell its story to everyone else. Continental Airlines has enjoyed great success by

133 Ibid., p. 14-15.
134 Ibid., p. 22.
135 Continental Airlines. Securities & Exchange Committee Quarterly Report for Continental Airlines, Inc. for period ended

9/30/02, p. 8.
136 Continental Airlines press release, “Continental Airlines Announces Pricing of Initial Public Offering of Regional

Airline Subsidiary,” 4/17/02; online at www.continental.com (viewed 11/19/02).

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formulating a smart, no-nonsense public image that goes hand-in-hand with its strategic
mission.

Brand Definition : “Work Hard. Fly Right”
The public knows Continental’s “Go Forward” program as “Work Hard. Fly Right.”

The simple, snappy ad campaign–which features little more than the airline’s signature
blue-and-white globe and a series of short, to-the-point messages137–was launched in
1998 under the creative guidance of advertising firm NW Ayer & Partners. The campaign
continues to be a strong public face for the airline. In fact, while other airlines worked to
redefine their public images in the wake of the September 11th attacks, Continental
recommitted to its “Work Hard. Fly Right” branding.138

The Kaplan Thayer Group (KTG) took over Ayer in April 2002139 without causing a
hiccup in Continental’s public image. In fact, KTG–one of Madison Avenue’s most brazen
and successful ad agencies–seems to taking “Work Hard. Fly Right” in fresh new
directions: The agency allied with digital innovator Semaphore Partners in July 2002 to
unify the ad campaign and Continental’s interactive solutions,140 and recently partnered
with cutting-edge cartoonists FlickerLab to create animated TV spots for the airline.141
Continental’s willingness to invest in its public image–it was the lone major carrier to
increase its media budget at end of 2001142–has helped the airline maintain one of the
sleekest images among an increasingly ragtag band of competitors.

Commitment to Customer Service
Guess which two airlines constantly top industry studies for customer satisfaction?

You got it, Continental and Southwest.

–Investor’s Business Daily143

When Gordon Bethune took over Continental as CEO, he understood the value of
branding–so much so that he cut the advertising budget in half until the company could

137 See appendix for examples from the October 2002 issue of Continental, Continental Airlines’ in-flight magazine.
138 Petrecca, Laura. “Air Leaders Struggle for a Way Back,” Advertising Age, Midwest region edition, 6/24/02, Vol. 73,

Issue 25, p. S24.
139 Fass, Allison. “Ayer, One of Madison Avenue’s Oldest Names, Is Fading Away,” New York Times, 4/8/02; online at

http://query.nytimes.com/search/restricted/article?res=F7091FF93E590C7B8CDDAD0894DA404482 (viewed
11/14/02).

140 Semaphore Partners press release. “Kaplan Thaler and Semaphore Partners Forge Alliance,” 7/23/02; online at
www.semaphorepartners.com/site/WhoWeAre/PressRelease.aspx?cid=1284 (viewed 11/16/02)

141 FlickerLab press release. “FlickerLab Completes Another National TV Spot for Continental Airlines,” August 2002;
online at www.flickerlab.com (viewed 11/16/02).

142 “Air Leaders Struggle for a Way Back,” Advertising Age, 6/24/02, p. S24.
143 Keri, Jonah. “Satisfaction, Profits Fly Hand in Hand,” Investors Business Daily, 1/30/01; online at

www.investors.com/ibdArchives/ArtShow.asp?atn=657041934134188 (viewed 11/14/02).

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build a product worth promoting.144 To be reborn, the airline need more than a Madison
Avenue image–it needed results.

Key to Continental’s turnaround has been an emphasis on empowering employees
at every level to offer the best service possible, and gauging success with tangible
performance measures, both internally and against competitors. Doing so “got every
employee heading in the same direction,” reflected president and COO Greg Brenneman
in 1998.145

Keeping the eye on the prize has resulted in unprecedented success for a major
U.S. carrier. Continental Airlines has enjoyed the industry’s strongest consistency in
service metrics over the past four years. 146 Operational performance included an 82.2%
on-time arrivals rate for 2001–making Continental number one among U.S. hub carriers
for on-time performance–and a 99.2% flight completion rate in 2001.147 Its on-time record
and mishandled-bags record were best-of-industry for the first half of 2002.148 What’s
more, the carrier cancels half as many flights than the industry as a whole, and had
cancelled only 0.2 of its scheduled flights in the first half of 2002. The result has been a
slate of industry and customer-service awards unrivaled by another U.S. carrier in recent
years.149

The airline is an innovator behind the scenes, too: Its call-center quality assurance
program is an industry leader.150 In fact, Continental is so widely acknowledged for it
success in the customer-service arena that it sells consulting service to outside firms–both
within and outside the airline industry–in Business and Training solutions, including call
center management, customer service, and sales training.151

Target One: Business Travelers
By placing greater emphasis on product differentiation over pricing relative to its

competitors, Continental has continued to emphasize its commitment to business
travelers,152 despite the fact that the business world is cutting back on travel budgets,
redirecting its traveling executives to the coach seats, replacing face-to-face meetings with

144 Brenneman, Greg. “Right Away and All At Once: How We Saved Continental,” Harvard Business Review, Sept-Oct
1998; HBR OnPoint product no. 4193; p. 9.

145 Ibid.; introduction, “The Idea at Work.”
146 Engel and Gruetzmacher. Goldman Sachs Global Equity Research, 6/17/02, p. 6.
147 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, “2001 Accomplishments” (p. ii) and pp. 11-12;

completion factor excludes flights cancelled due to the events of September 11, 2001.
148 Engel and Gruetzmacher. Goldman Sachs Global Equity Research, 6/17/02, p. 6; also “Airline Performance Hot; 88% of

Flights on Time in September,” USA Today, 11/8/02, p. B5.
149 See appendix for partial list.
150 Hollman, Lee. “A Not-So-Quixotic Quest for Quality,” Call Center Magazine, July 2002, pp. 18-32.
151 Continental.com. “Business Training Solutions,” www.continental.com/programs/solutions/default.asp?

SID=191C87255FE14B0EA62F1DF96F4D55B9 (viewed 11/14/02).
152 Jonas, David. “CO Puts Premium on Biz Travel,” Business Travel News, 3/25/02, p. 3.

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video and teleconferencing, and generally cutting back on corporate travel across the
board.153

Establishing the goal to earn and retain business travelers as part of the “Go
Forward Plan,” a post-turnaround Continental has proven its willingness to do almost
anything to keep them on board: Bethune has even thrown a party at home for the 100
top flyers in the innovative and award-winning OnePass program,154 an Inside Flyer
Freddie Awards “Best Elite-Level Program” winner in 2000 and 2001155 as well as a key
factor in Continental’s five consecutive JD Power and Associates consumer satisfaction
awards.156 These key travelers played a key factor in the airline’s return to profitability,
increasing from 32 to 48% of business between 1994 and 2001.157

Today, the emphasis is on providing a competitive advantage via cutting-edge
technology and convenience. The airline caused a stir by introducing the world’s widest
business-class seats–offering 170-degree recline, 6 1/2 feet of sleeping space, and privacy
hoods with personal reading lights–to its award-winning “Business First” class at cost of
$15 million in March 2002–exactly the time that all of its competitors were looking for
ways to cut costs.158 Other perks added post-9/11 to keep business travelers Continental
have included adding security checkpoints, automated check-in kiosks, and free inflight
movies. As a result of Continental’s heightened appeal to business travelers, the airline
has realized the smallest relative decline in traffic of the six largest carriers.159

Strategic Alliances
Continental has realized incredible successes with strategic partnerships that

expand their reach both domestically and around the globe. The carrier’s long-term
alliance with Northwest Airlines, in place through 2025,160 is unprecedented in scope. The
two carriers have built one of the industry’s largest international route maps through
extensive code-sharing and route system design. They also offer frequent flyer and
executive club reciprocity; regularly engage in cooperative marketing efforts; and have
negotiated joint contracts with major corporate clients and travel agents.161

153 “Air Leaders Struggle for a Way Back,” Advertising Age, 6/24/02, p. S24.
154 Hammonds, Keith H. “Business Fights Back: Continental’s Turnaround Pilot,” Fast Company, Dec. 2001, Issue 53, p.

96.
155 The Freddie Awards, online at www.freddieawards.com/live@event/fred14th/ (11/19/02).
156 JD Power Consumer Center, online at www.jdpower.com/travel/search.asp?CatID=4 (11/14/02).
157 “Business Fights Back: Continental’s Turnaround Pilot,” Fast Company, Dec. 2001p. 96.
158 Jonas, David. “CO Puts Premium on Biz Travel” and “Continental Broadening BusinessFirst Seats,” Business Travel

News, 3/25/02, p. 3 and 14.
159 McCartney, Scott. “Flights of Fancy: Continental Airlines Keeps Little Things, And It Pays Off Big,” Wall Street

Journal, 2/4/02, p. A1.
160 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, pp. 18-19.
161 Ibid., p. 19.

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Current Continental Airlines president Larry Kellner calls the alliance with
Northwest, which generated $140 million in incremental revenue in 2001, “an absolute
homerun.” It is considered to be the only domestic alliance offering enough scope and
utility to attract corporate buyers.162 The domestic network expands as of August 2002,
when a marketing agreement with Delta163 formed a Continental-Northwest-Delta
alliance controlling a remarkable 36% of the domestic market share.

Other domestic code-sharing partners include Gulfstream International Airlines
(in which Continental owns 28%),164 Hawaiian Airlines, Alaska Airlines, Horizon Air,
Mesaba Aviation (Northwest’s commuter airline), CommutAir, and American Eagle
Airlines. The airline’s international code-share alliance partners include KLM Royal
Dutch Airlines; Virgin Atlantic Airways; Air China; Air Europa, Spain’s largest carrier;
Panama-based Copa Airlines (in which Continental owns a 49% equity stake); Emirates,
the official airline of the United Arab Emirates; and Taiwan-based EVA Air.165 A new
code-share alliance with regional carrier British European flybe was awaiting final
approval in November 2002.166 Continental believes that forming such strategic alliances
are the best way to expand the airline’s foreign product line.

Continental’s partnering emphasis is on quality rather than quantity, however: The
airline dropped an eight-year-old code-share agreement with America West in March of
2002, 167 and passed on an alliance with troubled carrier US Airways in June.168

Continental Airlines expanded its code-share options further in March 2002 by
launching a creative air/rail alliance with Amtrak. Under the bilateral code-share
agreement, passengers are now able to travel between one of the 17 Amtrak connection
cities on the Northeast Corridor line and Newark Airport under one reservation.169

Another example of Continental’s “outside the box” thinking was the November
2002 announcement that Dallas-based Travelweb had forged an agreement with
Continental Airlines to become a private-label net-rate hotel distribution affiliate for the
airline’s consumer website. Under the agreement, Continental plans to provide their

162 “CO Puts Premium on Biz Travel,” Business Travel News, 3/25/02, p. 3. Also Jonas, David. “CO-NW Deals with KLM
Further Transatlantic Alliance,” Business Travel News, 5/13/02, p. 3.

163 Delta Air Lines. “Delta Air Lines Signs Marketing Agreement with Continental Airlines and Northwest Airlines,”
press release, 8/23/02; online at www.delta.com (viewed 11/14/02).

164 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, p. 19.
165 Ibid.; also www.continental.com/company/alliance/default.asp?SID=AE733239090942C3916E1BDDF2D9F3A0

(viewed 11/19/02).
166 www.continental.com/company/alliance/flybe.asp?SID=AE733239090942C3916E1BDDF2D9F3A0 (11/19/02).
167 Consumer Reports Travel Letter, June 2002, Vol. 18, Issue 6; p. 4.
168 Airwise News. “Continental Shelves US Airways Alliance Talks,” 6/3/02; online at http://news.airwise.com/

stories/202/07/1025721393.html (viewed 11/15/02).
169 “Continental Airlines and Amtrak Will Launch an Air/Rail Codeshare Agreement,” Airports, 3/12/02, Vol. 8, issue

11, p. 4.

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customers with one-stop shopping–and themselves with a level of vertical integration–
by marketing Travelweb’s net-rate hotel room inventory to customers through
Continental.com starting in the first quarter of 2003.170

Corporate Culture
We knew we had to balance those three elements:

The customers, the employees, and the shareholders.

—Chief Financial Officer Larry Kellner171

We treat our people well, and in turn, they treat our customers well.

Happy employees equal customer satisfaction.

–Chief Executive Office Gordon Bethune172

The Continental “Go Forward” plan has defined a corporate culture that

emphasizes superior customer service; employee involvement, open bilateral
communication, and tangible goal-reward systems at every level; and strong, transparent
leadership that employees could see in action; and pro-active decision making, for better
and worse.

Vocal, Action-Oriented Leadership
In 1994, one of Gordon Bethune’s first acts as CEO was to dismantle the troubled

airline’s ivory tower and bridge the gulf between executives and employees.173 He
promoted a culture of openness rewarding good work with tangible rewards. “We
wanted to let our people feel involved, that they belonged, that they were important–no
matter what their role or position in the company,” says Bethune.174

The emphasis continues to be on keeping employees informed at every level.
Company goals, plans, initiatives are regularly communicated to all employees, from
senior managers to baggage handlers.175 Employees receive daily on-time arrival updates
via email, as well as weekly voice-mail messages from their CEO.176 “When management

170 Yahoo! Finance. “Travelweb Selected by Continental Airlines as Online Net-Rate Hotel Distribution Affiliate,”
11/18/02; online at http://biz.yahoo.com/bw/021118/180118_1.html (viewed 12/02/02).

171 “Satisfaction, Profits Fly Hand in Hand,” Investors Business Daily, 1/30/01.
172 “Top Talent and Passionate Employees,” HRM Guide USA, 4/10/02; online at www.hrmguide.net/usa/

commitment/passionate_employees.htm (viewed 11/15/02).
173 “Satisfaction, Profits Fly Hand in Hand,” Investors Business Daily, 1/30/01.
174 “Top Talent and Passionate Employees,” HRM Guide USA, 4/10/02.
175 Ibid.
176 Raphael, Todd. “Continental Stays on Course,” Workforce, June 2002, Vol. 81, Issue 6, p. 16.

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wakes up in the morning, it’s ‘What do we need to tell people today?’,” states David
Messing, Continental’s PR Managing Director.177

Post-9/11 layoffs were announced to employees throughout the company hours
before the press was informed.178 “Consistent–even persistent–communications is our
mantra,” reports Bonnie Reitz, the airline’s senior vice president of Sales and
Marketing.179

Outspoken leadership is also key to Continental’s spearheading industry position.
The airline was the first to respond to the attacks of September 11th with fiscal and job
cuts. Bethune was the first industry leader to raise the need for government financial
assistance,180 and the first top airline executive to make the talk-show rounds to assure
U.S. flyers that it was safe to board domestic carriers again. He has also leads the call for a
“common sense” approach to airline security.181

The media has responded in kind to Continental’s openness. Journalists report that
Continental’s executive and public relations staffs are responsive and available both in
good times and in bad.182

Employees
Continental Airlines employed 42,900 employees as of December 31, 2001.183 While

layoffs of 12,000 were announced on September 15, 2001, in connection with a post-9/11
reduction on flight schedule, the company was ultimately able to limit furloughs to
8,000,184 or about 21% of the total workforce. Approximately 55% of furloughed
employees voluntarily accepted leaves of absence and retirements. Not only has the
company avoided further large-scale layoffs as of November 2002, but several hundred
employees were recalled to assist with enhanced airport security requirements around
the country.185

177 Green, Sherri Deatherage. “Internal PR Keeps Continental Flying Toward Profit,” PRWeek USA, 2/18/02; online at
www.sherrigreen.com/Internal%20pr%20keeps%20continental%20flying.htm (viewed 11/15/02).

178 Ibid.
179 Grant, Robert A. “Making the Connection,” Lodging, March 2002; online at www.lodgingnews.com/lodgingmag

/2002_03/2002_03_19.asp (11/16/02).
180 “Internal PR Keeps Continental Flying Toward Profit,” PRWeek USA, 2/18/02.
181 Fiorino, Frances. “Bethune Urges Common Sense Approach to Airline Security,” Aviation Week & Space Technology,

6/24/02, Vol. 156, Issue 25, p. 65.
182 “Internal PR Keeps Continental Flying Toward Profit,” PRWeek USA, 2/18/02.
183 Continental Airlines, Inc. 2001 Annual Report, p. 7.
184 Ibid., p. 20.
185 Ibid.

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The Value of High Morale
When Fortune magazine named Continental no. 55 of its “100 Best Companies to

Work For” in January 2002–it’s the company’s fourth year in a row on the list–the
magazine reported that 90% of employees reported that they intended to work at
Continental until they retire.186 What’s more, the company is recognized for its diversity;
Hispanic magazine named Continental to its “Most Opportunities for Hispanics” list of
employers for the third year in a row in 2001.187

The value of Continental’s workforce and the high morale that the executive team
has been able to generate among its employees should not be underestimated. In fact, in
its mid-year “Buy” report, Goldman Sachs named Continental’s employees as the
company’s most distinctive competitive advantage: “High employee morale helps
produce a more consistently reliable service product, sustaining Continental’s revenue
edge.”188

The “Pay-for-Performance” Innovation
When the customers won, the employees did, too.

–President and COO Greg Brenneman189

An innovative monthly cash-reward incentive program has been a key driver in
transforming Continental’s on-time performance “from worst to first”: In 1995, as a key
component of their turnaround plan, Bethune and Brenneman introduced a pay-for-
performance plan in which each of its (then) 35,000 non-managerial employees would
receive a $65 cash bonus in any month that Continental ranked among the top five
airlines for on-time departures.190

Everyone in the company won when the airline hit its on-time goals: “Booking
agents, public relations folks, even that guy who waved the orange flashlights.”191 The
incentive plan turned out to be a direct driver of performance: The carrier was first in on-
time performance within two months of instituting the program.192 The program was
such a success that, in 1996, the $65 payout occurred only if Continental ranked among
the top three on-time airlines; if it ranked first, the reward was $100.

186 As quoted in Continental Airlines 2001 Annual Report, p. 14.
187 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, “2001 Accomplishments” (p. ii).
188 Engel and Gruetzmacher. Goldman Sachs Global Equity Research: Continental Airlines, 6/17/02, p. 1.
189 Brenneman. “Right Away and All At Once: How We Saved Continental,” Harvard Business Review; p. 10.
190 Knez, Marc and Duncan Simester, “Making Across-the-Board Incentives Work,” Harvard Business Review, Feb. 2002,

Vol. 80, Issue 2, pp. 16-17.
191 “Satisfaction, Profits Fly Hand in Hand,” Investors Business Daily, 1/30/01.
192 Ibid.

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The power of teamwork instituted a sea change in employee morale: It also played
a central role in reducing employee turnover, sick days, and on-the-job injuries, as well as
setting new standards for employee empowerment.193

The airline renewed its commitment to the plan in 2002, despite its annual cost of
approximately $44 million, coupled with the devastating financial losses following
September 11, 2001;194 in fact, the company paid out the cash rewards in 11 out of 12
months in 2001.195 While some might view cutting the pay-for-performance program as a
way for the company to save cash in the short term, Continental sees it as essential to the
airline’s continued success in the long term.

Other Rewards
Continental has also won over its employees with its Perfect Attendance

Recognition Program, which awards quarterly bonuses to employees with a spotless
attendance record. In addition to the monetary reward, the company awarded 18 new
Ford Explorers to employees in 2001 as part of the program.196

Continental’s profit-sharing plan ties employee compensation to company
objectives, “to ensure that our coworkers would win when our investors did,” notes Greg
Brenneman.197 Virtually all Continental employees (except those whose collective
bargaining agreements require other compensation) receive about 15% of the company’s
annual pre-tax earnings.198 Continental also supports a scholarship program that funded
educations for 96 Continental employees in 2002.199

The company’s high employee satisfaction rate is still surprising, considering its
reputation for low pay relative to the rest of the industry.200 Goldman Sachs analysts
report that mechanics wage rates are 20% below other large-hub carriers (a gap that has
closed somewhat with a new contract signed in October 2002; see below); Continental
pilots receive 40% less pay than their peers at other airlines; and pensions and benefits
packages are comparatively smaller across the workforce, relative to the rest of the
industry.201

193 “Making Across-the-Board Incentives Work,” Harvard Business Review, Feb. 2002, pp. 16-17.
194 “Continental Stays on Course,” Workforce, June 2002, p. 16.
195 Continental Airlines, Inc. Continental Airlines 2001 Annual Report, ” introduction, “2001 Accomplishments.”
196 Ibid.; also “Internal PR Keeps Continental Flying Toward Profit,” PRWeek USA, 2/18/02.
197 Brenneman. “Right Away and All At Once: How We Saved Continental,” Harvard Business Review; p. 11.
198 Ibid.; also Continental Airlines, Inc. Continental Airlines 2001 Annual Report, pp. 28-29.
199 Continental Airlines 2001 Annual Report, p. 14.
200 Vault.com, “Continental Airlines,” online at www.vault.com/companies/company_main.jsp?

co_page=1&product_id=720&ch_id=283 (11/14/02)
201 Engel and Gruetzmacher. Goldman Sachs Global Equity Research, 6/17/02. p. 10.

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Union Relations
While corporate-union relations are traditionally fraught with tension across any

industry, Continental has managed to establish generally better-than-cordial relations
with the majority of its heavily unionized employee ranks: roughly 45% of employees
below to unions.202 This has been no small feat, thanks to bitter union relations history
formed under former owner Frank Lorenzo, who alienated his workforce in the 1980s by
breaking union contracts as a cost-cutting measure,203–not to mention the pay gulf
between Continental employees and their industry peers.

The airline has been able to quell some labor unrest by striking a four-year deal
with the International Brotherhood of Teamsters, which represents the airline’s 3,400
unionized mechanics and related workers, in October 2002. The airline agreed to
attractive wage and retirement-benefit increases as well as strengthened job protections,
at the same time that rival United Airlines was trying to squeeze wage cuts out of its
labor groups.204 The airline’s 6,750 flight attendants, represented by the AFL-CIO’s
Association of Flight Attendants, have contracts in place through September 2004.205

Most vocal about compensation, job protection, and other issues is the Air Line
Pilots Association, the United States’ largest pilots’ union. The union’s Continental Master
Executive Council (CAL ALPA) represents the approximately 6,500 pilots employed by
Continental Airlines and Continental Express.206 The union does not hesitate to speak out:
When Gordon Bethune and his senior staff accepted 62.5% bonuses for first-quarter 2002
because the airline bettered its loss targets–even though hundreds of pilots remained on
furlough–union spokesman John Prater called move “galling.”207

Despite ongoing contract negotiations between Continental and the Air Line Pilots’
Association, rough waters between seemed to be smoothing over in mid-November 2002,
when the pilots’ union gave the green light Continental’s code-share plan with Northwest
and Delta Airlines.208

202 Ibid.
203 “Internal PR Keeps Continental Flying Toward Profit,” PRWeek USA, 2/18/02.
204 Reuters, “Continental, Mechanics in Tentative Deal,” 10/18/02; online at Yahoo! Finance,

http://biz.yahoo.com/rb/021018/airlines_continental_union_1.html. Also “Continental and Teamsters Settle,” New
York Times, 10/19/02, p. C4. Also Goldman Sachs Global Equity Research, 6/17/02, p. 10.

205 Association of Flight Attendants, AFL-CIO website, www.flightattendant-afa.org/negotiations_status.asp
(11/19/02). Also Goldman Sachs Global Equity Research, 6/17/02, p. 10.

206 Continental Airlines Master Executive Council press release, “Pilots Wait to See What Continental Airlines’ New
Code-Sharing Contracts Mean for Them,” 8/26/02; online at www.calalpa.org/cgi/newssystem/one_press.asp?
IDNews=398 (viewed 11/19/02).

207 Dan Reed, “Continental Execs Qualify for Bonuses,” USA Today, 10/15/02.
208 Brannigan, Martha and Nicole Harris. “Delta Pact With Pilots Bolsters Code-Share Plan,” Wall Street Journal,

11/18/02, p. 2.

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Conclusion
By the end of 2001, Continental Airlines was the fifth largest airline209 company in

the world, employing 50,000 people and flying to 216 destinations. Continental serves
more destinations in Mexico and Central America than any other U.S. airline. It also
serves more Japanese cities than all other U.S. carriers.210 In 2002, Continental recorded
the highest on-time performance among the large hub carriers. It received the Freddie
award–the Oscar of frequent flyer programs–for the eighth consecutive year for the best
elite program.211

However, the events of September and the poor industry situation since has lead
Continental to make huge cuts in capacity and introduce a series of cost-cutting measures
to meet what the airline considers to be dramatic changes in the market place. “These are
challenging times in our industry and we need to do something now,” said Gordon
Bethune. “US Airways declared bankruptcy and United is likely to soon follow. While we
remain committed to running a clean, safe, and reliable operation, we need to do some
aggressive belt tightening so we don’t end up like them.”212 Continental posted USD$139
million losses in its second quarter 2002 and total capacity was expected to be down by
roughly 17% for 2002 compared to the previous year.213

The economic slowdown of the economy forced some changes upon the company,
but they have stuck to their four-part mission. Their Go-forward Plan has helped them
make the remarkable turnaround, and the airline hopes this will see them through
present and future.

Still, Continental faces significant future challenges on all fronts. The emphasis has
been on increasing customer fees, emphasizing operations belt-tightening and natural
attrition over layoffs, as well as cost efficiency through e-ticket distribution innovations.
But with the airline bleeding cash and their stock price that has shown a decline and high
variability, how long can it hold its shareholders at bay? Given the current turmoil in
which the industry finds itself, can the airline maintain the programs that have been key
to its turnaround success?

209 As measured by 2001 revenue passenger miles.
210 Engel, Glenn and Gruetzmacher, Michael. Goldman Sachs Global Equity Research: Continental Airlines. June 17, 2002. p.

2.
211 The Freddie Awards, online at www.freddieawards.com/winners.htm (viewed 12/4/02). For a list of Continental’s

most recent awards, see Appendix 1.
212 Continental Airlines Press Release, “Continental Airlines, Responding to Market Changes, Implements Measures To

Increase Revenue, Reduce Costs,” 8/20/02; online at www.continental.com (viewed 12/03/02).
213 Airwise News. “Continental Tightens Its Belt,” 8/20/02; online at http://news.airwise.com (viewed 12/03/02).

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In the even bigger picture, can this “legacy” carrier, designed around a hub-and-
spoke system with rigid labor-union commitments and significant fixed costs in
equipment and facilities, modify its business fundamentals enough to compete effectively
with the new breed of low-cost point-to-point carriers to ultimately return to
profitability?

With a glorious past and an unsure future, only time will tell if Continental will
come out of one of the worst tourism slowdowns as a winner or a loser.

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Exhibit 1
Highlights of Continental Airlines’ History

1934 Louis Mueller and Walter T. Varney create Varney Speed Lines
1936 Mueller sells 40% of the company to Robert Forman Six who will manage the

company for 40 consecutive years
1937 Varney Speed Lines is renamed Continental Airlines
1945 Continental has 400 employees and serves 26 cities
1953 Continental merges with Pioneer Airlines and expands its route to 46 cities
1959 The Boeing 707 is introduced to the fleet
1967 Air Micronesia is created to serve routes in Micronesia region
1978 The Airline Deregulation Act is enacted and will change the nature of flying forever
1979 Some oil producing countries create a cartel – the price of jet fuel skyrocketed
1980 Robert Forman Six retires
1980 Frank Lorenzo buys Continental
1983 Continental Airlines files for Chapter 11 bankruptcy protection for the first time
1986 Lorenzo acquires Eastern Airlines, People Express and Frontier Airlines
1987 “Continental Express” is created to bring increased traffic to hub cities
1988 Continental negotiates an alliance with SAS who invest 18.4% in Continental
1990 Frank Lorenzo is declared “unfit” by U.S. Congress and is forced out of the company
1990 Continental Airlines filed for Chapter 11 bankruptcy protection a second time, citing

rising fuel costs and reduced travel following the Gulf War
1994 Gordon Bethune is elected CEO of Continental Airlines
1995 The “Go Forward Plan” is adopted and will lead Continental Airlines to success
1997 Continental achieves a record annual profit of $640 million
1998 Northwest and Delta issue competing bids for the acquisition of Continental –

Continental chooses a complex code-share strategic relationship with Northwest and
Northwest agrees to have Continental run as an independent but complementary
business

2001 Continental buys back all common shares held by Northwest Airlines – for the first
time since 1983, the carrier no longer has an outside controlling shareholder

2001 Terrorists attack the USA using commercial aircraft as weapons, with strikes on New
York, Washington and Pennsylvania on September 11th

2002 Continental announced a USD$ 139 million loss for the second quarter of 2002. The
company promises a return to profitability – but will they be able to find profitability
and avert the crisis of filing for Chapter 11 bankruptcy protection for a third time?

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Exhibit 2
U.S. Airline Traffic and Operations

(All figures in millions) 1997 1998 1999 2000 2001
Revenue Passenger Enplaned 594.7 612.9 636.0 666.2 622.1
Revenue Passenger Miles 603,419 618,087 652,047 692,757 651,663
Available Seat Miles 857,232 874,089 918,419 956,950 930,486
Passenger Load Factor (%) 70.4% 70.7% 71.0% 72.4% 70.0%

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Exhibit 3
Discontinued Routes After September 11, 2001

Cleveland – Atlantic City Newark – Daytona Beach, FL
Houston – Abilene, TX Newark – Dusseldorf, Germany
Houston – San Angelo, TX Newark – Houston / Hobby
Houston – Tyler, TX Newark – London Stansted
Houston – Waco, TX Newark – Melbourne, FL

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Exhibit 4
Composition of Continental’s Fleet

Aircraft Type Total
Aircraft

Firm
Orders

Options Seats in
Standard

Configuration

Average
Age

(in Years)
777-200ER 18 — 3 283 3.3
767-400ER 16 — — 235 1.3
767-200ER 10 — 2 174 1.8

757-300 4 11 11 210 1.0
757-200 41 — — 183 5.9
737-900 12 3 12 167 1.3
737-800 77 38 35 155 2.8
737-700 36 15 24 124 4.0
737-500 65 — — 104 6.7
737-300 58 — — 124 16.1
MD-80 29 — — 141 16.7

Total Mainline Jets 366 67 87 7.0

ERJ-145XR 18 86 100 50 0.1
ERJ-145 140 — — 50 2.6
ERJ-135 30 — — 37 2.3

Regional Jets 188 86 100 2.3

Grand Total 554

Source: Continental Airlines, Inc. 2002 Annual Report, for period ended 12/31/02, p. 21.

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Exhibit 5
Financial Statements
olidated Balance Sheet
ons, except per share data)

Year Ended December 31,

Fiscal Year End 2002214 2001215 2000216 1999217 1998218
Assets
Current Assets:
Cash & Equivalents $1,225 $1,132 $1,371 $1,198 $1,399
Short-Term Investments 117 — 24 392 —
Accounts receivables, net 377 404 495 506 449
Spare parts and supplies, net 248 272 280 236 166
Deferred Income Taxes, Prepayments & Other Current

Assets 310 336 289 274 340
Total Current Assets 2,277 2,144 2,459 2,606 2,606
Property & Equipment, net 6,968 6,153 5,163 4,173 3,065
Other Non-Current Assets (including routes, airport

operating rights & other intangibles, net) 1,495 1,494 1,579 1,444 1,667
Total Assets $10,740 $9,791 $9,201 $8,223 $7,086

Liabilities & Stockholders’ Equity
Current Liabilities:
Accounts Payable $930 $1,008 $1,016 $856 $843
Current Maturities of Long-Term Debt & Capital Leases 493 355 304 321 231
Air Traffic Liability 882 1,014 1,125 962 854
Accrued Payroll & Other Current Liabilities 621 569219 535 636 514
Total Current Liabilities 2,296 2,946 2,980 2,775 2,442
Long-Term Debt & Capital Leases 5,222 4,198 3,374 3,055 2,480
Other Long-Term Liabilities 1,572 1,243220 995 800 860
Commitments & Contingencies
Mandatorily Redeemable Preferred Securities of Subsidiary

Trust Holding Solely Convertible Subordinated Debentures 241 243 242 — 111
Minority Interest & Redeemable Preferred Stock of

Subsidiary 12 — — — —
Redeemable Common Stock — — 450 — —
Stockholders’ Equity:
Preferred Stock — — — – –
Class B Common Stock 1 1 1 1 1
Additional Paid-In Capital 1,391 1,069221 379 871 634

214 Source: Continental Airlines, Inc. 2002 Annual Report, p. 23.
215 Ibid.
216 Source: Continental Airlines, Inc. 2001 Annual Report, p. 24.
217 Source: Continental Airlines, Inc. 1999 Annual Report, pp. 38-39.
218 Ibid.
219 $523 in accrued payroll and pensions and $291 in accrued other liabilities, resulting in $3,191 in total current

liabilities reported in 2001 Annual Report, p. 24.
220 $998 in other long-term liabilities reported in 2001 Annual Report, p. 24.
221 $1,071 in additional paid-in capital reported in 2001 Annual Report, p. 24.

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Retained Earnings 910 1,361 1,456 1,114 659
Accumulated Other Comprehensive Income (Loss) (395) (130)222 13 (1) (88)
Treasury Stock, at Cost (1,140) (1,140) (689) (392) (13)
Total Stockholders’ Equity 767 1,161 1,160 1,593 1,193
Total Liabilities & Stockholders’ Equity $10,740 $9,791 $9,201 $8,223 $7,086

222 ($132) in accumulative other comprehensive loss reported in 2001 Annual Report, p. 24.

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Financial Statements (Cont’d)
Income Statement ($ millions) Year Ended December 31,
Fiscal Year End 2002223 2001224 2000225 1999226 1998227
Operating Revenue:
Passenger-related revenues $ 7,862 $ 8,457 $ 9,308 $ 8,116 $7,456
Cargo, mail and other 540 512 591 523 471
8,402 8,969 9,899 8,639 7,927
Operating Expenses:
Wages, salaries and related costs 2,959 3,021 2,875 2,510 2,218
Aircraft fuel 1,023 1,229 1,393 756 727
Aircraft rentals, landing fees and other rentals 1,535 1,484 1,376 1,268 659
Maintenance, materials and repairs 476 568 646 603 582
Depreciation & Amortization 444 467 402 360 583
Reservation and sales, commissions 592 809 981 990 414
Passenger services 296 347 362 352 294
Fleet impairment losses, severance and other special charges 242 124 – 81 122
Other 1,135 1,193 1,135 1,104 1,627
Stabilization Act grant 12 (417) — — —
8,714 8,825 9,170 8,024228 7,226
Operating Income (312) 144 729 615229 701
Nonoperating Income (Expense):
Interest expense (356) (295) (251) (233) (178)
Interest capitalized 36 57 57 55 59
Interest income 24 45 87 71 —
Gain on sale of Amadeus – – 297 55
Other, net (7) (65) (60)230 (7)231 11
(303) (258) (167)232 183233 (53)
Income (Loss) before Income Taxes and Extraordinary Charge (615) (114) 562234 798 648
Income Tax (Expense) Benefit 202 29 (219)235 (310) (248)
Distributions on Preferred Securities of Trust (10) (10) (1) — (13)

223 Source: Continental Airlines, Inc. 2002 Annual Report, p. 22.
224 Ibid.
225 Ibid.
226 Source: Continental Airlines, Inc. 2001 Annual Report, p. 23.
227 Source: Continental Airlines, Inc. 1999 Annual Report, p. 37.
228 $8,039 in total operating expenses reported in 1999 Annual Report, p. 37.
229 $600 in total operating income reported in 1999 Annual Report, p. 37.
230 ($51) in other non-operating income (expenses) reported in 2001 Annual Report, p. 23.
231 $8 in other non-operating income reported in 1999 Annual Report, p. 37.
232 ($158) in total non-operating income (expense) reported in 2001 Annual Report, p. 23.
233 $198 in total non-operating income reported in 1999 Annual Report, p. 37.
234 $571 in income (loss) before income taxes and extraordinary charges reported in 2001 Annual Report, p. 23.
235 ($222) in income tax benefit (expense) reported in 2001 Annual Report, p. 23.

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rest (28) — — — —
come (Loss) before Income Taxes and Extraordinary Charge — $ (95) 348 488 387
mulative Effect of Accounting Changes, Net of Taxes — — — (33) —
traordinary Charge, net of income taxes — — (6) — (4)
Income (Loss) $ (451) $ (95) $ 342 $ 455 $383

sic Earnings (Loss) per Share $ (7.02) $ (1.72) $ 5.62 $ 6.54 $6.34
uted Earnings (Loss) per Share $ (7.02) $ (1.72) $ 5.45 $ 6.20 $5.02

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Financial Statements (Cont’d)
Consolidated Statement of Cash Flows ($ millions) Year Ended December 31,
Fiscal Year End 2002236 2001237 2000238 1999239 1998240
Cash Flows from Operating Activities:
Net Income (Loss) $ (451) $ (95) $ 342 $ 455 $ 383
Adjustments to reconcile net income (loss) to net cash:
Depreciation & Amoritization 444 467 402 360 294
Fleet disposition/impairment losses 242 61 — 81 122
Deferred Income Taxes (179) (40) 224 293 224
Gain on sale of Amadeus — — — (297) —
Gain on sale of other investments — — — (29) (6)
Changes in operating assets & liabilities: (138) 101 (4) (37) (137)
Cumulative Effect of Change in Accounting Principles — — — 33 —
Other 4 51 (58) (83) (4)
Net Cash Provided by Operating Activities (78) 545 906 776 876

Cash Flows from Investing Activities:
Purchase deposits refunded (paid) in connection with
aircraft deliveries 146 (95) (63) (1,174)

(818)

Capital expenditures (539) (568) (511) (706) (610)
Sale (purchase) of short-term investments (117) 24 368 (392) —
Proceeds from sale of Amadeus, net — — — 391 —
Other (34) (15) 138 (6) (30)
Net Cash Used in Investing Activities (544) (654) (68) (659) (698)

Cash Flows from Financing Activities:
Proceeds from Issuance of Long-Term Debt, net 596 436 157 453 737
Issuance Capital Stock 241 334 38 56
Payments on Long-Term Debt & Capital Lease Obligations (383) (367) (707) (295) (423)
Proceeds from sale of ExpressJet, net 447 — — — —
Proceeds from issuance of Preferred Securities of Trust, net — — 242 — —
Purchase of Common Stock — (451) (450) (528) (223)
Proceeds from Issuance of Common Stock 23 241 92 38 56
Other — (11) 3 — —
Net Cash Used in Financing Activities 683 (152) (663) (318) 196

Net Change in Cash & Cash Equivalents 61 (261) 175 (201) 374
Cash & Cash Equivalents — Beginning of Period 1,102 1,363 1,188 1,399 1,025
Cash & Cash Equivalents — End of Period $ 1,163 $ 1,102 $ 1,363 $ 1,198 $ 1,198

236 Source: Continental Airlines, Inc. 2002 Annual Report, p. 24.
237 Ibid.
238 Ibid.
239 Source: Continental Airlines, Inc. 1999 Annual Report, pp. 40-41.
240 Ibid.

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Supplemental Cash Flows Information:
Interest Paid $ 345 $ 314 $ 276 $221 $ 157
Income Taxes Paid (Refunded) (31) (4) 7 18 25
Investing & Financing Activities Not Affecting Cash:
Property & Equipment Acquired Through Issuance of Debt 908 707 808 774 425
Capital Lease Obligations Incurred 36 95 53 50 124
Conversion of 6-3/4% Convertible Subordinated Notes — — — 230 —
Conversion of Trust Originated Preferred Securities — — — 111 134
Sale-Leaseback of Beech 1900-D Aircraft — — — 81 —

Writtenby Matthew Cox, Erik Jacobs, Jeff Mayer, Longjiang Wei and Mila Nouralla under the

direction of Jeffrey S. Harrison at the Cornell School of Hotel Administration; copyright Jeffrey S.
Harrison
This case study is written for the purposes of classroom discussion. It is not to be duplicated or
cited in any form without the author’s express permission. For permission to reproduce or cite
this case, contact Jeffrey S. Harrison at harrison@richmond.edu. The case may be used in class
free of charge.

The Center for Hospitality Research

AT CORNELL UNIVERSITY

December 8, 2003

Starwood Hotels & Resorts –
A Case Study

1. INTRODUCTION
At first glance, Starwood may not look very different from it’s main competitors –
Marriott, Hilton, InterContinental, and Hyatt – with hundreds of resorts under
various flags focused in the upscale markets all over the world. Upon closer
inspection, however, one begins to see some major differences. Though her
major brands – Westin and Sheraton – are well-recognized in the industry,
Starwood is a new kid on the block, an outsider with a strong wall-street
perspective. Unlike her competitors who were born and grown within the
confines of the hospitality industry, Starwood is open-minded and is known for
several innovations in marketing, management, branding, and customer service.

Starwood is not merely the story of a company, but also that of her founder, CEO
and Chairman, Barry Sternlicht, who is largely credited for Starwood’s initial
success. His passion and vision lend structure and inspiration to the hundreds of
thousands of employees who make Starwood a reality. His impending
resignation will serve as a difficult test for the company to see if it can survive
the divorce of Starwood and the CEO who created her.

Starwood Hotels & Resorts – A Case Study, 2

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This case study is focused on Starwood Hotels and Resorts – the largest part of
the company – and not on Starwood Vacation Ownership. Let this case serve as
Starwood’s first chapter, a summary of the company as it stands now, moments
before its significant change of leadership.

2. HISTORY
The history of Starwood Hotels and Resorts is an interesting amalgamation of
Starwood itself, the historic American hotel chains that make it one of the
world’s largest hospitality companies – Westin and Sheraton, and some of the
new brand innovations that have been launched in recent years – St. Regis,
Luxury Collection, W Hotels, and Sheraton by Four Points.

2.1 History of Starwood Hotels and Resorts

Starwood Capital Group was founded by Barry Sternlicht in 1991, with backing
from the Ziff and Burden families. However, the company did not make its first
big bid into the hospitality industry until 1995 when Starwood, with backing
from Goldman Sachs and Nomura Securities, purchased Westin Hotels (now
Westin Hotels and Resorts) from the Japanese construction firm Aoki.

Starwood bought Hotel Investors Corp (now Starwood Lodging Corp.), a rare
pair-shared REIT called Hotel Investors Trust, in 1995 and renamed it Starwood
Lodging Trust. The Pair-Shared REIT allowed Starwood to take advantage of
grand-fathered tax breaks that had otherwise been outlawed.

The government eliminated the REIT tax shelter laws in 1999 but not before
Starwood went on what Hoover’s Online refers to as, “a shopping spree.”1

• 1997 – Starwood completed its acquisition of Westin and Ciga of
Europe

– Starwood purchased ITT (Sheraton, Dessert Inn, Caesars, etc.) for

14.6 billion2

• 1998 – Sternlicht hires Disney’s Richard Nanula to run Starwood’s
operating company

– Starwood launches W Hotels
• 1999 – Starwood becomes a corporation
Richard Nanula resigns over poor relations with Sternlicht3

1 Hoover’s Online, “Starwood – History”. online at
www.hoovers.com/subscribe/co/history.xhtml?COID=10747 (viewed 11/13/03).
2 Ibid.
3 Ibid.

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Starwood buys time share operation Vistana (Starwood Vacation
Ownership.)

The turn of the century brought a massive downsizing of fixed and human assets
for Starwood Hotels and Resorts.

• 2000 – Starwood sells Caesar’s to Park Place Entertainment for $3 billion
– Starwood sells Desert Inn Hotel and Casino to Steve Wynn

(Mirage Resorts) for $270 million
– Starwood announces plans to sell off Ciga

• 2001 – Starwood cuts 12,000 jobs (25% of work force) in the wake of the
September 11th terrorist attacks

2.2 Westin History

Westin Hotels is the aftermath of a meeting of two competing hotel founders
who decided to collaborate on a new joint company called Western Hotels in
Yakima Washington in 1929. Since the first 17 hotels were founded in the 1930’s,
the company launched several cutting edge influences that have impacted the
international hotel industry. The name was changed from Western International
to Westin in 1980.4

• 1929 – Western Hotels is established as the first Hotel Management
Company
• 1946 – Debuts fist guest credit card
• 1947 – Develops first hotel reservation system – Hoteltype
• 1969 – Introduces first 24 hour room service
• 1983 – Accepts major credit cards – first hotel to do so.
• 1991 – Rolls-out first in-room voice-mail service5

Westin was purchased by United Airlines in 1970 and later sold to Japanese
construction firm Aoki during the height of the Japanese bubble economy in
1988. Starwood purchased Westin in 1997.6

2.3 Sheraton and Four Points History

The Sheraton Hotel story is similar to Westin in terms of the introduction of a
number of significant industry-shaping firsts, Sheraton was the first hotel listed
on NYSE, the first hotel with an automated reservation system, and the first hotel

4 Starwood Hotels and Resorts, Starwood History” online at
http://www.starwood.com/westin/about/history.html (viewed 11/14/2003).
5 American Hotel & Lodging Association, “History of Lodging Industry”, online at
http://www.ahla.com/products_lodging_history.asp (viewed 11/14/2003).
6 Hoover’s Online, “Starwood History” online at
www.hoovers.com/subscribe/co/history.xhtml?COID=10747 (viewed on 11/13/03).

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with a toll-free reservation number. The story is slightly different however, in
terms of this hotel’s great international expansion to 500 hotels in 50 years. The
company was founded in 1937 by Ernest Henderson and Robert Moore when
they purchased the Stonehaven in Springfield, Massachusetts.7 An interesting
side note is the name Sheraton which was adopted because the founders did not
have the money to take down a large electric “Sheraton” sign on the rooftop of
one of their first properties.
• 1939 – Bought two hotels including a small residential unit named

“Sheraton Hotel” the largest electric “Sheraton” sign on the roof
was too expensive to take down, so the rest of the hotels took
on the Sheraton name

• 1941 – Bought 50% of Boston’s failing Copley Plaza for $1.00 a share8
• 1946 – Merged with U.S. Realty, and began expansion9
• 1949 – Became the first Hotel Corporation to be listed on the New York

Stock Exchange, barely edging out Travelodge10
• 1955 – Became the first hotel to incorporate closed circuit TV’s11
• 1958 – Introduced Reservation, the industry’s first automated
reservation system and the world’s first toll-free reservation
number12
• 1966 – Purchased the St. Regis in New York City13
• 1968 – Acquired by ITT Corporation14
• 1973 – Introduced industry’s first central reservation telephone
number15
• 1973-1986 – Expands heavily to 500 hotels worldwide16
• 1985 – Built a branch of an international hotel chain in China17
• 1995 – Introduced the mid-scale brand “Four Points by Sheraton”18
• 1998 – Acquired by Starwood19

7 Starwood Website, “History of Sheraton at Starwood”, online at
http://www.starwood.com/sheraton/about/history.html (viewed 11/14/2003).
8 Ibid.
9 Ibid.
10 American Hotel & Lodging Association, “History of Lodging Industry” online at
http://www.ahla.com/products_lodging_history.asp (viewed11/14/2003).
11 Sheraton Corporation, Sheraton 50, One Company, One Future, Sheraton World, The, (1987), pp2-11.
12 American Hotel & Lodging Association, “History of Lodging Industry” online at
http://www.ahla.com/products_lodging_history.asp (viewed 11/14/2003).
13 Sheraton Corporation, Sheraton 50, One Company, One Future, Sheraton World, The, (1987), pp2-11.
14 Ibid
15 American Hotel & Lodging Association, “History of Lodging Industry”, online at
http://www.ahla.com/products_lodging_history.asp (viewed 11/14/2003).
16 Sheraton Corporation, Sheraton 50, One Company, One Future, Sheraton World, The, (1987), pp2-11.
17 Ibid.
18 Starwood Hotels and Resorts, “Sheraton History at Starwood” online at
www.starwood.com/sheraton/about/history.html (viewed 11/14/2003).
19 Ibid.

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2.4 St. Regis and Luxury Collection History

The St. Regis chain is a fairly new development on an old landmark. The
‘flagship’ property was founded in 1904 by Colonel John Jacob Astor IV – who
with his cousin built the Waldorf-Astoria in 1897 and later met his fate aboard
the Titanic in 1912. In its time the original St. Regis benefited from New York
City’s fame and fortune by attracting various celebrity regulars such as Colonel
Serge Obelensky, Marlene Dietrich, William Paley, Salvador Dali, and Gertrude
Lawrence. The flagship slept in mediocre fame until 1999 when Starwood began
knighting several classic luxury hotels with the St. Regis brand in an attempt to
export some of the flagship’s romance to luxury hotels around the world. The St.
Regis in New York City was acquired by Starwood, with the Sheraton chain, in
1998.20

The following hotels were re-branded or opened as St. Regis

• Carlton Hotel, Washington – 1999
• Ritz-Carlton, Aspen – 1999
• Grand Hotel, Rome – 2000
• The Luxury Collection, Houston – 2000
• Beijing International Club, Beijing – 2000
• St. Regis, Los Angeles – 2000
• St. Regis Resort & Spa, Monarch Beach – 2001
• St. Regis, Shanghai – 2001
• Lanesborough Hotel, London – 200221

2.5 W Hotels History

The W Hotel has a short and exciting history that started with Starwood founder
Barry Sternlicht who is often credited with the innovation of creating a trendy
hotel chain that captures the character of an independent hotel.
The first hotel opened to great success in New York City 1998 and was followed
by Sydney, Los Angeles, Honolulu, New Orleans, San Diego, Chicago, Times
Square, New York City. Often mistakenly categorized as a boutique hotel
because of its boutique-experienced Senior V.P. Steve Marx, Starwood is now
referring to W as a chain of ‘Style Hotels.’ New branches will open soon in Ft.
Lauderdale, Dallas, Montreal, and Seoul.22

20 Starwood Hotels and Resorts, “St. Regis History at Starwood” online at
http://www.starwood.com/stregis/about/history.html (viewed 11/14/2003).
21 Starwood Hotels and Resorts, “History of St. Regis at Starwood” online at
http://www.starwood.com/stregis/about/history.html (viewed 11/14/2003).
22 Ibid.

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3. ENVIRONMENTAL ANALYSIS
Broad movements in social, economic, political, and technological trends all have
varying degrees of influence in the hospitality market. Some of the strongest
influences are global instability, recessed economies, and availability to
technological breakthroughs.

3.1 Social Trends and Influences

Social trends in the environment have a direct impact on the performance of
hospitality corporations. The willingness of people to travel greatly impacts the
U.S. market place. Also, the Baby Boomer generation has a social impact on the
lodging industry.

The U.S. market share of the lodging industry has been decreasing at an alarming
rate for the past 10 years. The worldwide trend for travelers is to take short-haul
trips that are closer to their home and cost less money. However, the U.S. is
feeling a greater impact by this trend as compared to the rest of the world.
According to the Travel Industry Association of America “…in 2002 long-haul
travel from the top tourism markets declined only five percent, while overseas
arrivals to the U.S. declined 12 percent over 2001. The United State’s loss of
market share has been going on for ten years. Since 1992, U.S. market share of all
world travel is down 42 percent”.23

The Domestic Travel Market Report, 2003 Edition, indicates that Baby Boomers
(age 35 to 54) account for the majority of travel in the U.S. Last year, Baby
Boomers logged 241 million household trips (43% of total), while mature
travelers (age 55+) accounted for 31% of household trips, and Generation X and
Y (age 18 to 34) accounted for 26%. Baby Boomers are more affluent and have
greater amounts of disposable income when compared to the other age groups.
This is explained by the fact that 44% have an annual income of $75,000 or more.
Their spending habits on leisure trips are more than that of the other age
demographics, averaging $491 (excluding transportation) per trip, with 14%
spending over $1,000 on a trip.24

The National Business Travel Association (NBTA) surveyed the impact of the
Severe Acute Respiratory Syndrome (SARS) on corporate travel policies. The
survey indicated that 55% of respondents said their corporate travel policy

23 Hospitality Net. “U.S. Market Share of International Travel is At An All-Time Low – TIA Reports”
online at http://www.hospitalitynet.org/4016218.html (viewed 11/16/ 2003).
24 Hospitality Net. “Baby Boomers Generate Highest Travel Volume in U.S. – TIA Reports” online at
http://www.hospitalitynet.org/4017358.html (viewed 11/16, 2003).

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decreased to SARS affected areas of the world.25 The World Health Organization
issued travel advisories to several cities during the SARS outbreak, and as a
result, business and tourism to those areas was severely impacted.

3.2 Economic Trends and Influences

Broad economic factors have a large impact on the hospitality industry. The
current weak economy is impacting travel of all kinds. Leisure travel, as well as
business travel is decreased when compared to just a few years ago. There are
numerous reasons for the recent downward trend in travel, some of these factors
include: slow consumer spending, corporate layoffs, a low public rating of the
economy, the SARS outbreak, the war in IRAQ (see Political Trends and
Influences), and changes in corporate travel policies.

Consumer spending, despite low interest rates which have increased demand for
housing, cars and other durables, grew at a low 1.5% during the fourth quarter of
2002. The last time the growth rate was that slow was in the third quarter of
2001.26 “In February, U.S. companies eliminated more than 300,000 jobs, the
largest decline in jobs since the month following the 9/11/01 terrorist attacks,
increasing the unemployment rate to 5.8 percent.”27 Both low consumer
spending and a higher unemployment rate have added to a decrease in leisure
travel.

The United States is not as economically prosperous as in years past. With the
bursting of the dot.com bubble and a decrease in the stock market, America is
currently in a recession. “The public’s rating of the economy is now at a 10-year
low… [and] consumer confidence indexes have plummeted to their lowest levels
since the fall of 1993.”28 However, these cycles are typical in the economy, and
most financial predictors indicate that the economy is on an upswing.

Business travel is also down. Corporations are changing their business travel
policies in a cost-cutting effort to combat the negative effects of the current
slowed economy. Two years after the 9/11/01 tragedy, security concerns and
inconveniences are not the main concerns of the business traveler. Currently,
according to an NBTA survey, 74% of respondents indicated that a corporation’s
financial well-being is essential for the recovery of business travel. “In a survey
of 204 travel managers conducted June 19-26 [2003], about 58% report some

25 Hospitality Net. “NBTA Survey Finds Corporation Reducing Travel Based on War, SARS” online at
http://www.hospitalitynet.org/4015460.html (viewed 11/16/2003).
26 Hospitality Net. “TIA Publishes First New Travel Outlook Report” online at
http://www.hospitalitynet.org/4015355.html (viewed 11/16/2003).
27 Ibid.
28 Ibid.

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decrease in travel spend compared to the same time last year” and “78% report
using more mid-priced hotel brands instead of luxury properties [for their
senior-level executives].”29

The National Business Travel Association (NBTA) President and CEO, Kevin
Iwamoto, says, “…travel is an essential part of doing business and we will
start to see a return to healthy spending as companies gradually return to
normal commerce and business activity… Security hassles are less of a
concern as security measures improve and business travelers become more
familiar with the procedures. As this and past NBTA surveys have shown,
economic conditions must improve before business travel will return to
normal levels.”30

In September 2003 PriceWaterhouseCoopers’ released their Hospitality
Directions Forecast Alert, which explained that the lodging industry’s strong
summer 2003 performance is a good indicator that the industry is heading
toward recovery in 2004.31

Key predictions from PricewaterhouseCoopers include:

• “Lodging demand will expand by 4.0 percent in 2004 and 2.8 percent in
2005. After five consecutive quarters of occupancy gains, ADR increases
will strengthen by the third quarter of 2004, and become the larger
contributor to RevPAR advances. Seasonally adjusted ADR is expected to
rise by 2.9 percent between the second and the fourth quarter of 2003.

• Occupancy will advance to 60.8 percent and 61.6 percent in the next two
years.

• RevPAR is expected to stabilize in 2003, with occupancy increasing by 0.1
percent from 2002 level to 59.2 percent. RevPAR in 2004 is forecast to rise
by 4.9 percent to $51.92 which translates to a 3.7 percent gain in real
RevPAR from the previous year.”32

3.3 Technological Trends and Influences

Current technological trends in the hospitality companies include web initiatives,
check-in kiosks and wireless remote check-in. Also, improvements in core
applications such as Point of Sale (POS) systems, Customer Reservation Systems

29 Hospitality Net. “NBTA Survey Finds Business Travel Rebound Tied to Economic Recovery” online at
http://www.hospitalitynet.org/4016443.html (viewed 11/16/ 2003).
30 Ibid.
31 Hospitality Net. “Economic Revival in Second Half of 2003 Builds Momentum for Robust Lodging
Demand Recovery in 2004 – PriceWaterhouseCoopers Reports”. Online at
http://www.hospitalitynet.org/4017215.html (viewed 11/16/ 2003).
32 Ibid.

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(CRS) and Property Management Systems (PMS) have resulted in hospitality
companies spending millions of dollars just to keep up with new innovations.
Integration is the latest trend, but in order to have all systems integrated within a
property, and across multiple properties, large financial recourses are required
and the benefits may not always justify the costs.

Customer Relationship Management (CRM) is a big initiative in the hospitality
industry right now. With the popularity of data warehouses and the ease of
using the internet, tracking customer information has become much easier, but
how to use that information is still a big variable. Numerous hospitality
companies have been able to create advantages by using collected customer
information, but whether the advantages create a sustainable competitive
advantage still remains to be seen. Problems with CRM systems include
transaction volume, data integrity, and the question of who owns the data (the
property or the chain) and consistency across branded properties. Often, the
rates offered at the CRS are different than the rates at the property, and skilled
internet users are able to work the system to find the lowest rates from a variety
of sources.33

3.4 Political Trends and Influences

Government policy and world political events have an impact on the hospitality
industry. The lodging industry feels the effects of political influence, and as a
result should be aware of the potential impact the government can have on their
segment of the world market. Events like terrorist threats, war and health
advisories, all a result of government/political involvement, impact the behavior
of consumers and the bottom line of hospitality companies.

The Department of Homeland Security increased the terror threat from Yellow to
Orange (“significant but nonspecific threat” to “a high risk of terrorist attack”) in
March 2003. The previous time the government declared an Orange status
international air-travel dropped more than 20%.34

War puts consumers on edge, and the U.S. led war in IRAQ has affected both
domestic and international travel. Many countries oppose America’s
involvement in Iraq, and therefore are not traveling to America in response. This
translates to a direct decrease in tourist dollars in the U.S. Also, areas directly
affected by the war are realizing a major decrease in travel to their region

33 Hospitality Net. “Make room in hotels for e-business… New Thinking for New Realities: What
Hospitality Information Technology Professionals Should Know About Managing IT in the New
Millennium” online at http://www.hospitalitynet.org/4009196.html (viewed 11/16, 2003).
34 Hospitality Net. “TIA Publishes First New Travel Outlook Report” online at
http://www.hospitalitynet.org/4015355.html (viewed 11/16/2003).

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(Middle East). The NBTA surveyed 240 corporate travel managers in April 2003
and the response was that 67% of the respondents indicated that their companies
travel had decreased in direct relation to the war with Iraq.35 The war in Iraq has
resulted in a decrease in both the leisure and corporate travel industry.

The Americans with Disabilities Act (A.D.A.) and the many guests who look for
disability violations in hotels around the United States has an influence on the
hospitality industry. Starwood must make sure that its 468 North American
properties are compliant with the A.D.A or potentially face time in court. The
A.D.A can bring up lawsuits over minor details in parking lots, doorways, front
desks, hallways, flooring, closets, swimming pools, seeing dog accommodations,
restrooms, and employee training. Board of Trustees member Senator George
Mitchell is an expert on the act and is working to help prevent any such
lawsuits.36

The Sarbanes-Oxley Act was signed into law by President Bush on July 30, 2002
in an attempt to halt corrupt accounting and corporate practices in all public
companies. The acts forces large public companies to alter their reports and
retain new certifications for their officers. The act also prohibits officers from
borrowing internally, forces them to report stock purchases within two days,
requires them to return equity based compensation in any cases of misconduct,
and prevents them from buying company stock during prolonged blackout
periods.37

4. HOSPITALITY INDUSTRY
The hospitality industry is split into a variety of categories based on customer
demand. It is a highly competitive industry with many competitors vying for a
number of customers that rises and falls on economic and social trends. The main
sources of revenue for the lodging industry are room sales and food & beverage
sales. Percentages of hotel rooms sold are recorded as Occupancy and are sold at
wildly varying Average Daily Rates (ADR). Due to global instability and
economic downturn, the industry has been in a slump for the past two years.

4.1 United States Lodging Supply

According to Standard & Poor’s, the U.S. lodging industry is comprised of

35 Hospitality Net. “NBTA Survey Finds Corporation Reducing Travel Based on War, SARS” online at
http://www.hospitalitynet.org/4015460.html (viewed 11/16, 2003).
36Robert Braun , “Corporate Corruption Act Clean Up Affects Hotel Companies Too” online at
http://www.hotel-online.com/News/PR2002_4th/Oct02_CorpCleanUp.html ( viewed 11/16/2003).
37 Ibid.

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about 4.3 million rooms in 55,000 properties in mid-2003. This equates to one
hotel room for every 70 U.S. residents.38 According to Smith Travel Research,
industry room supply was up 1.7% in 2002 and the number of room nights was
up 0.7%. In 2002 room revenue was down to about $77.5 billion, a 0.8% decrease
from the previous year.39 No single lodging company dominates the market, in
fact, no company represents more than 15% of the total U.S. market.40

4.2 Performance

For 2003, Standard & Poor’s expects the US lodging industry’s RevPAR to dip
about 0.8% from the 2002 level due to a 1.3% rise in the number of available
rooms without a significant rise in total revenues. Standard & Poor’s projected
occupancy is 58.8% and Smith Travel is only slightly more optimistic at 59.1%.41

Smith Travel Research (STR) estimated that the U.S. Lodging industry brought in
pre-tax revenues of $14.2 million in 2002, off 12% from 2000’s peak performance.
RevPAR was down 2.5% from the previous year to $49.41. Average room rate
dropped 1.5% to $83.54.42 Lodging industry results have fallen in part due to
more and more travelers switching preferences from upscale hotels to more
affordable mid-scale rooms. Falling numbers of business travelers do not help.

4.3 Revenue Source

Standard & Poor’s estimates that 73% of the U.S. lodging industry’s revenue
comes from room sales and 21% comes from food & beverage services, while the
rest comes from miscellaneous fees and charges.43 Of course, the less services
that a hotel offers, the more of its revenue is likely to be driven by room sales.

The American Hotel & Lodging Association suggests that about 55% of hotel
customers are traveling for the purposes of business meetings or conferences.44
Therefore, weekday room rates are higher but weekend occupancy rates are
greater. Overall, the RevPAR for weekday or weekend is about the same, but
room rates tend to be higher on weekday nights.

38 Graves, Tom, Standard & Poor’s, “Industry Survey” Lodging & Gaming, August 7, 2003, P8.
39 Ibid, p6.
40 Ibid, p7.
41 Ibid, p1.
42 Ibid, p6.
43 Ibid, p16.
44 Ibid.

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4.4 Competition

Several large global lodging companies have the bulk of their rooms crowded in
the upscale hotel market. These companies all fight to outperform the others in
property location, amenities, and guest services while maintaining some form of
brand integrity. New entrants to the market will find wary customers, saturated
real estate locations, and a complex juggling act of management and investment
decisions.

Competition with Starwood amongst large international hospitality companies in
the upscale market is fierce. Starwood Hotels and Resorts is the new kid on the
block fighting against seasoned giants, but Starwood’s recognized flags can
handle their own against these other brands.

Marriott International, Inc.
Marriot is the leading worldwide hospitality company with over
2,600 lodging properties in the United States and 68 other countries.45
Basic Strategy: “By focusing on managing and franchising, we can
rapidly add hotels to our portfolio and increase our global
distribution. This allows us to grow and enhance the value of our
brands.”46

Brands: Marriott Hotels & Resorts, JW Marriott Hotels & Resorts,
Renaissance Hotels & Resorts, Courtyard by Marriott, Residence Inn
by Marriott, Fairfield Inn by Marriott , TownePlace Suites by
Marriott, SpringHill Suites by Marriott, The Ritz Carlton Hotels &
Resorts, and Marriott Execustay (furnished corporate housing).47

Hilton Hotels Corporation
Hilton is a global hospitality leader which owns, manages and
franchises hotels with widely recognized brand names. The focus of
these brands is mixed between mid-scale, upscale, and luxury

45 Marriot Website, “Our Brands” online at
http://www.marriott.com/corporateinfo/glance.asp?WT_Ref=mi_left (viewed on Nov 20, 2003).

46 Marriott Internal, Inc. Marriott Internal, Inc Annual Report 2002 pg 7.
47 Marriot Website, “Our Brands” http://www.marriott.com/corporateinfo/glance.asp?WT_Ref=mi_left
(viewed on Nov 20, 2003).

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properties. Hilton operates approximately 2,058 hotels, comprising
334,704 rooms world wide.48

Basic Strategy: “By taking care of our customers, maximizing our
growth opportunities in each of our business segments, and
effectively managing our costs, we remain dedicated to enhancing
shareholder value.” 49

Brands: Hilton, Hampton Inn, Doubletree, Embassy Suites Hotels,
Homewood Suites by Hilton and Conrad. In addition Hilton owns
some world-famous luxury properties like New Yorkʹs Waldorf
Astoria and Chicagoʹs Palmer House.50

Hyatt Corporation
Hyatt operates 207 Hyatt Hotels and Resorts around the worlds,
which are managed by two separate companies. Hyatt International
Corporation operates 61 hotels and 24 resorts in 39 countries. Hyatt
Hotels Corporation operates, leases, and franchises 122 hotels and
resorts in the United States, Canada, and the Caribbean. Hyatt’s
smaller collection of hotels is focused in the upscale market. 51

Basic Strategy: Not Available – Private Company

Brands: Hyatt Regency Hotels, Hyattʹs core brand of hotels, Grand
Hyatt and Park Hyatt brands.52

InterContinental Hotels Group PLC (IHG)
InterContinental has the most international hotels and manages the
second largest number of rooms of any lodging company. IHG has
more than 3,300 owned, leased, managed and franchised hotels and
over 515,000 rooms in almost 100 different countries. IHG’s
properties are split between mid-scale and upscale properties.53

48 Hilton Website, “Press and Media” online at
http://www.hiltonworldwide.com/en/ww/press_media/corporate_facts.jhtml (viewed on Nov 20, 2003).
49 Hilton Hotels Corporation. Hilton Hotels Corporation Annual Report 2002 p.4.
50 Ibid.

51 Hyatt Website, “Company Overview” http://www.hyatt.com/corporate/hyatt/index.jhtml?ssnav=0 online
at (viewed 11/20/2003).
52 Ibid.
53 InterContinental Hotels Group PLC Website “What We Do” online at
http://www.ihgplc.com/aboutus/whatwedo.asp( viewed 11/20/2003)

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Basic Strategy: “Our strategic focus is to enhance our market
leadership by driving both growth and returns. We achieve this by
creating and sustaining high value brands and formats which offer
customers excellent amenities and service, by developing prime sites
into these brands and formats, and by maximizing the benefits from
our corporate, brand, and unit scale. In each outlet, we motivate our
staff to deliver excellent standards of service through training,
incentive schemes, and constant attention to detail.”54

Brands: InterContinental Hotels & Resorts , Crowne Plaza Hotels &
Resorts, Holiday Inn Express by Holiday Inn, Holiday Inn Express
and Staybridge Suites.55

In year 2002, the revenues of the each company are as follows:

Exhibit 1

The Sales and Net Income of Key Competitors in Lodging Industry Year
2002

Company Sales in Millions
Net Income in

Millions
Starwood Hotel & Resorts

Worldwide, Inc $ 4,659 $ 355
Marriott International

$ 8,441 $ 277
Hilton Hotel Corp.

$ 2,540 $ 198
Hyatt

Not Available Not Available
InterContinental Hotel Group, PLC

$ 5,643 $ 713

Source: www.hoovers.com

54 InterContinental Hotels Group PLC. InterContinental Hotels Group PLC Annual Report 2002.
55 InterContinental Hotels Croup PLC Website, “What We Do”
http://www.ihgplc.com/aboutus/whatwedo.asp online at (viewed 11/20/2003).

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4.4.1 Rates

Rates are one of the many variables that determine customer’s decision in staying
at a particular hotel. Since prices differ from one market to another and from one
location to another, we focused on one particular tourism and business
destination. We chose New York City as an important destination in North
America, where all different hotels’ brands of the world are represented. New
York City is the most profitable market for Starwood. This market alone,
generates around 11.3% of its total EBITDA (excluding G&A expense).56

The rate range in Exhibit 2 shows the current price policy of “Starwood” and its
competitors. We split the brands into three types: Mid-Scale (Four Points), upper-
up-scale and Luxury (St.Regis, W hotels) and upper-scale (Westin, Sheraton).

Exhibit 2
Hotel pricing policies

Companies57 Type Rate
Lowest Highest Average

Mid-scale $301.00 $378.50 $339.75
Up-scale $330.00 $475.00 $402.50 Starwood

Up-scale and
luxury $324.25 $861.75 $593.00

Mid-scale $130.39 $204.39 $167.39
Original $382.00 $499.00 $440.50 Marriott

Up-scale and
luxury $394.50

$1,022.50 $708.50

Mid-scale $163.88 $223.88 $193.88
Original $285.94 $385.00 $335.47 Intercontinental

Up-scale and
luxury $208.00 $599.00 $403.50

4.4.2 Potential Competition

With corporate apartments, time-shares, and casino’s moving in on the lodging
industry, there are many potential substitutes to traditional hotel rooms.

56 Top 25 Lodging Markets” – 21 November 2003, Merrill Lynch.

57 Hotelshotels website, “New York NY” online at
http://www.hotelshotels.com/hotels/list/New_York/NY/US (viewed 11/28/2003).

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However, new entrants to the lodging industry will find complex and
demanding world of saturated real estate and management issues

Related industries, like permanent residences or corporate apartments, may lure
away guests from hotels. It is estimated that more than 64,000 people lived in
corporate apartments in year 2002.58 Technological developments in modern
communications allow people from around the world to connect face to face over
the internet or telephone with no travel required. Another factor that acts as a
substitute industry is the family and friend factor. If someone has a friend or
family in the area, there is a chance they may not stay in a hotel at all.

Investing in real estate to form a lodging company is a complex investment.
New organizations must consider whether they will buy, build, franchise, or
simply manage their properties. A delicate balance of debt and equity is
required to finance the hotel throughout its life. Finally, various management
challenges such as capital, marketing, personnel, maintenance and technology
must be met before a company can even begin to compete. Overall, a reliable
analysis of location, market, supply, future supply, facility programming, pricing,
and finance is indispensable.59

4.5 Customers

Starwood offers a range of properties from the mid-scale Four Points by Sheraton
brand to the luxury St. Regis and Luxury Collection brands. Most of Starwood’s
rooms are focused in its up-scale brands, Sheraton, Westin, and W. Please see
the careful analysis of customer information below from the American Hotel and
Motel Association.

“The Typical Lodging Customer
29% are transient business travelers
25% are attending a conference/group meeting
24% are on vacation
22% are traveling for other reasons (e.g., personal, family, special event)

58 Adam Baru, Yinnian Hou, etl, “Sixcontinental De-merge For a Better Future,” Cornell Hotel and
Restaurant Administration Quarterly… P21.

59 PriceWaterhouseCoopers Website,
www.pwcglobal.com/Extweb/industry.nsf/docid/781E8B6E2D8705DD85256C5C00674CAB (viewed
11/20/2003).

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The typical business room night is generated by a male (71%), age 35-54 (54%),
employed in a professional or managerial position (54%), earning an average
yearly household income of $81,600. Typically, these guests travel alone (61%),
make reservations (91%), and pay $93 per room night.

The typical leisure room night is generated by two adults (52%), ages 35-54 (43%),
earning an average yearly household income of $71,600. The typical leisure
traveler also travels by auto (74%), makes reservations (83%), and pays $85 per
room night.

For a hotel stay, 42 percent of all business travelers spend one night, 25 percent
spend two nights, and 33 percent spend three or more nights.
Of leisure travelers, 46 percent spend one night, 27 percent spend two nights,
and 27 percent spend three or more nights.”60

International Travel
According to the Office of Travel and Tourism Industries (OTTI), the top 10
overseas regions in terms of U.S. arrivals for 2002 were Western Europe (8.2
million), United Kingdom (3.8 million), Germany (1.2 million), France (734,260),
Italy (406,160), Netherlands (384,367), Spain (269,520), Ireland (259,687),
Switzerland (253,940), Sweden (204,156), and Belgium (159,052).
OTTI says 41.9 million international travelers visited the United States in 2002, a
7 percent decrease in travel from 2001. Overseas arrivals decreased by 12 percent
to 19.1 million. Canadian arrivals decreased by 7.8 percent to 13.5 million.
Mexican arrivals decreased by 4 percent to 13 million. Concurrently, U.S.
residentsʹ travel abroad decreased overall by 2 percent to 56.6 million. Overseas
departures decreased by 6 percent to 23.7 million. Canadian departures increased
3 percent to 16.0 million. Mexican departures decreased 2 percent to 16.8 million.
Figures for 2002 reveal that international visitor spending in the United States
decreased by 4 percent, resulting in $87.8 million total travel receipts.
Simultaneously, American spending followed closely with $80.3 million (3%)
spending outside the United States.”61

Targeting the proper market is a difficult process in the upscale lodging industry.
Hotel companies must go through a layered decision making process to try and
shift their hotel brands down to the correct customers.

60 American Hotel & Lodging Associate Website, “The 2003 Lodging Industry Profile,” online at
http://www.ahma.com/products_info_center_lip.asp (viewed 11/20/2003).
61 Ibid.

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While Starwood, for example, is mainly focused in the up-scale market, each
brand is basically centered on a specific and individual customer target. St. Regis
and the Luxury Collection focus on the luxury market. Westin is aiming at the
upper up-scale market along with W hotels but W is bringing in a younger age
group. Sheraton wants to be first in the up-scale market and Sheraton Four
Points is trying to dominate the mid-scale market. These brands target both the
luxury business traveler and the luxury leisure traveler, merely depending on
the location.

Next the lodging company must determine whether it wants to attract leisure
travelers or business travelers. Using Starwood again as an example, the
Sheraton, Westin, and W hotels are looking primarily to lodge business travelers,
while the resorts of the same name are targeting leisure travelers.

Finally, management must constantly keep abreast of new trends in the markets.
For example, the drop in the U.S. dollar may signify an opportunity for Starwood
to focus on its traveling international guests. Missing such trends in customer
demand could be devastating.

4.6 Suppliers

Being able to buy in enormous bulk sizes gives Starwood strong negotiating
power in terms of pricing and distribution, it is beneficial to have as many
centralized suppliers and receiving warehouse as they can. Due to the
geographical diversity of the Starwood brands, daily supplies required for the
operation of the hotel (e.g. food and beverage items and all other perishable
products) are purchased locally by each individual property. Only supplies that
fall under capital expenditures are ordered from the regional corporate office.

In addition to taking advantage of economies of scale, Starwood also takes the
competitor’s edge by dabbling in retail sales. For example, the Westin brand has
introduced “The Heavenly Bed”. The Heavenly Bed product line is produced by
Starwood’s representatives. Starwood provides all Westin hotels with these high-
quality beds, and additionally sells them in the retail market. By producing the
beds and bedroom furniture in-house, Starwood is able to save a substantial
amount of money, and Starwood has complete control over the types of beds it
can make.62

62 www.starwood.com/westin/services/index.html

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5. STARWOOD’S DIRECTION

Starwood’s mission is a pledge of various morale values centered on integrity,
open-mindedness, and responsibility. This section of the case displays the stated
mission statement and how Starwood has planned to meet their pledges.

5.1 Strategic Direction

The stated company value for Starwood is applicable to all customers,
shareholders, owners, associates and employees. According to these values,
Starwood aspires to become a great place to work and do business.

The Starwood company value:

We succeed only when we meet and
exceed the expectations of our customers,

owners and shareholders. We have a passion for
excellence and will deliver the highest

standards of integrity and fairness. We celebrate
the diversity of people, ideas and cultures.

We honor the dignity and value of
individuals working as a team. We improve the

communities in which we work.
We encourage innovation, accept

accountability and embrace change.
We seek knowledge and growth through learning.

We share a sense of urgency, nimbleness
and endeavor to have fun too.63

63 Starwood Website, “Company Values”online at
http://www.starwood.com/corporate/company_values.html (viewed 11/20/2003).

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Starwood’s mission is divided into three sub-missions for the main stakeholders;
the shareholders, the customers and the employees.

To our Shareholders, our goal is to grow EBITDA at least 8-10% per year and EPS
at least 15% per year.

To our Customers, we want Starwood to be the easiest company with which to
do business.

And to our Employees, our commitment is to make Starwood a great place to
work.64

5.2 Business Strategy

Starwood’s strategy to make money by dominating the various up-scale lodging
markets is a simple but challenging one. By maintaining, escalating, and
therefore differentiating the quality of their well-known brands they can
eventually charge higher average daily rates and thus maximize their revenues
per property. Up-scale consumers demand more in terms of amenities and
services provided, and Starwood is happy to oblige those demands, for a price.

“The Companyʹs primary business objective is to maximize earnings and cash
flow by increasing the profitability of the Companyʹs existing portfolio;
selectively acquiring interests in additional assets; increasing the number of the
Companyʹs hotel management contracts and franchise agreements; acquiring,
developing and selling VOIs; and maximizing the value of its owned real estate
properties, including selectively disposing of non-core hotels and ʺtrophyʺ assets
that may be sold at significant premiums. The Company plans to meet these
objectives by leveraging its global assets, broad customer base, and other
resources and by taking advantage of the Companyʹs scale to reduce costs.”65

In other words, Starwood manipulates its existing strengths to maintain steady
growth, maximize earnings, and attempt to create a sustainable competitive
advantage over the competition in the up-scale markets. Starwood’s strengths

64 Starwood Website, “Investor Relations” online at
http://www.starwood.com/corporate/investor_relations.html (viewed 11/20/2003).
65 Starwood Website, “Company Information” online at
http://www.starwood.com/corporate/company_info.html, (viewed 11/20/2003).

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include brand, marketing, market positioning, innovation, and economies of
scale.

5.2.1 Brand Strength

Starwood not only has a very strong brand portfolio but it also has created a
fairly strong name for itself by winning several global awards to establish itself
as a champion among travel experts. The company has recently won Business
Travel News’ “World’s Best hotel Company” award and, for three years has won
“Annual Top U.S. Hotel Chain Survey.” In November 2002 Starwood was
awarded “World’s Best Global Hotel Company” by Global Finance magazine. For
two years in a row, the company has won the World Travel Awards’ “World’s
Leading Hotel Group” award.66

The distinction of being named the Worldʹs Leading Hotel Group is a direct
result of the strength of commitment to service of Starwood associates at every
level in all divisions,ʺ said Bob Cotter, chief operating officer for Starwood. ʺTo
be recognized as the leader in the global hospitality industry in 2003 truly speaks
to the tremendous impact Starwood and its brands has had on the industry in a
very short period of time.ʺ67

The Business Travel News awards are the result of tabulated responses from
corporate travel buyers from around the globe.68 The World Travel Awards is the
result of 80,000 travel agents’ votes from over 200 countries.69

“While Starwood focuses on the luxury and upscale portion of the full-service
lodging and vacation ownership market, the Company’s brands cater to a
diverse group of sub-markets within this market. For example, the St. Regis
hotels cater to high-end hotel and resort clientele while Four Points by Sheraton
hotels deliver extensive amenities and services at more affordable rates.”70

Brands like Sheraton, Westin and St. Regis are well represented, well recognized,

66 Starwood Website, “Investor Relations” online at
http://www.starwood.com/corporate/investor_relations.html (viewed 11/20/2003).
67 Starwood Website, “Investor Relations” online at
http://www.starwood.com/corporate/investor_relations.html (viewed 11/20/2003).
68 Business Travel News, February 10, 2003 Special report: Top U.S. Hotel Chain Survey, P 10.
69 World Travel Award 2003 Website, “World Travel Awards 2003” online at
http://www.worldtravelawards.com/downloads/WTA_2003_release (Viewed 12/5/2003).
70Starwood Hotels & Resorts Worldwide. Starwood Hotels & Resorts Worldwide 2002 Annual Report.

Starwood Hotels & Resorts – A Case Study, 22

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and highly respected all over the world and W Hotels is a market leader in the
modern style hotel market. The Westin Hotels and Resorts brand and the W
Hotels brand have ranked respectively number one and two in the Business
Travel News (BTN) upper-upscale category. In the same survey the Four Points
by Sheraton, was ranked first place in the BTN mid-price category. In fact, all of
Starwood’s brands are ranked in the top three by BTN for each of their respective
categories.71

Starwood’s brands include:

“St. Regis Hotels & Resorts (luxury full-service hotels and resorts) deliver the
most discreet, personalized and anticipatory level of service to high-end leisure
and business travelers. St. Regis hotels typically have individual design
characteristics to accentuate each individual location and city. Most St. Regis
hotels have spacious, luxurious rooms and suites with highly designed,
residential surroundings and include a 4- or 5-Star restaurant on premises.

The Luxury Collection (luxury full-service hotels and resorts) is a group of
unique hotels and resorts offering exceptional service to an elite clientele (some
of which may also be branded a St. Regis, Sheraton or Westin). The Luxury
Collection includes some of the world’s most renowned and legendary hotels
generally well known by the individual hotel name. These hotels are
distinguished by magnificent decor, spectacular settings and impeccable service.

Sheraton Hotels & Resorts (upscale full-service hotels and resorts) is the
Company’s largest brand serving the needs of upscale business and leisure
travelers worldwide. Sheraton hotels and resorts offer the entire spectrum of
comfort, from full-service hotels in major cities to luxurious resorts. These hotels
and resorts typically feature a wide variety of on-site business services and a full
range of amenities including rooms that feature generous work spaces, allowing
business travelers to stay productive on the road.

Westin Hotels & Resorts (luxury and upscale full-service hotels and resorts)
are first-class, signature hotels that typically make up an integral part of a city or
region in which the hotels are located. Westin hotels and resorts are
characterized by a commitment to uncompromised elegance, service and guest
experience.

71 Business Travel News, February 10, 2003 Special report: Top U.S. Hotel Chain Survey, pp18-20.

Starwood Hotels & Resorts – A Case Study, 23

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W Hotels (stylish boutique full-service urban hotels) was inaugurated in
December 1998 with the opening of the W New York. W hotels provide a unique
hotel alternative to business travelers, combining the personality, style and
distinctive flavor of an intimate hotel with the functionality, reliability and
attentive service of a major business and leisure hotel. W hotels feature modern,
sophisticated design with custom-made furnishings and accessories, fully wired
rooms with the most advanced technology in the industry, and unique, high-
quality signature restaurants and bars.

Four Points by Sheraton (moderately priced full-service hotels) deliver
extensive amenities and services such as room service, dry cleaning, fitness
centers, meeting facilities and business centers to frequent business travelers at
reasonable prices. These hotels provide a comfortable, well-appointed room,
which typically includes a two-line telephone, a large desk for working or in-
room dining, comfortable seating and full-service restaurants.”72

Exhibit 3
Breakdown of Starwood Properties

Properties Rooms
St. Regis and Luxury Collection 50 9,000
Sheraton 396 134,000
Westin 115 47,000
W 17 5,000
Four Points 144 26,000
Independent/Other 26 6,000
TOTAL 748 227,000

Source: Starwood 2002 Annual Report

Hotels

5.2.2 Frequent guest program

The companyʹs loyalty program, Starwood Preferred Guest® (SPG) has received
the Hotel Program of the Year Award in 2002, for the 3rd consecutive year. This
award is voted by consumers via the Freddie Awards. Other awards received by
Starwood for their SPG program are: Best Customer Service, Best Elite-Level
Program, Best Website, Best Reward Redemption and Best Newsletter. The
Starwood Preferred Guest program was the first customer loyalty program in the

72 Ibid.

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hospitality industry without blackout dates. Starwood Guest Program had over
15 million members in 2002.73

5.2.3 Presence in the up-scale markets

Almost all of Starwood’s hotels are focused in the up-scale market and take a
strong position in their independent categories, which allows them to charge
respectable average daily rates. Their varieties of strong brands are represented
in the world’s major hotel destinations.

5.2.4 Economies of scale

Being one of the largest hotel companies in the upper-scale full-service lodging
market, provides Starwood with great economies of scale advantages. Some of
the advantages are the marketing and reservations systems that are in place and
purchasing power from the suppliers of insurance, energy, FF&E, F&B and other
operating supplies. To get a better idea of the scale of Starwood, the following is
a breakdown of the amount of hotels, with the total amount of rooms per
ownership and per global region.

Exhibit 4

Type of Ownership

Per Ownership Properties Rooms
Owned hotels(a) 163 56,000
Managed and unconsolidated joint venture
hotels

277 94,000

Franchised hotels 308 77,000
Vacation ownership resorts 18 4,000
Total properties 766 231,00074

(a) Includes wholly owned, majority owned and leased hotels.

73 Starwood Website, “Investor Relations” online at
http://www.starwood.com/corporate/investor_relations.html (viewed 11/20/2003).

74 Starwood Website, “Company Information” http://www.starwood.com/corporate/company_info.html
(viewed 11/20/2003).

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Exhibit 5

Property Regions

Per Global Region Hotels Rooms
North America 468 152,000
Europe, Africa and the Middle East 170 40,000
Latin America 40 9,000
Asia Pacific 88 30,000
Total 766 231,00075

5.3 Opportunities for growth

As the management wants the company to continue to grow, they have
identified a number of potential growth opportunities that increase the
company’s profitability and at the same time improve the company’s operating
performance.

• Continue to increase the number of contracts where Starwood, or one
of her brands, acts as the third party manager. This allows Starwood to
increase its Cash Flows with limited need for capital.

• Continue to increase the number of franchises for the different
Starwood brands. By doing this Starwood will increase its market
presence for Starwood, and the franchise fees will result in additional
income.

• Improve and increase Starwood’s electronic distribution network.
• Continue to further develop Customer Relationship services.
• Further development of the frequent guest program with the objective

to increase occupancy levels.
• Adjust marketing strategies by using the growing and increasing

customer database. The adjusted strategies include selling additional
products, improving occupancy rates and intensifying services to
existing customers.

• Continue to increase the “W” hotel brand, focusing on the luxury full-
service market. Additionally the “W” brand should grow in the form
of resorts in less urban areas.

75 Ibid.

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• Expand in selling Starwood amenities as consumer products, e.g.
Heavenly® Bed and Bath, the Sheraton Sweet Sleeper® Bed and the
Sheraton Service Promise®.

• Convert all owned hotels into Starwood branded properties.
• Expand on the development of Vacation Ownership.
• Improve operating efficiencies by further development of Information

Technology.76

6. STARWOOD’S STRUCTURE

Starwood was founded by an innovative visionary who has hired seasoned or
innovative experts to take on the top positions in Starwood. Founder Barry
Sternlicht’s approach is unique because, unlike other hospitality companies that
grow big and come to Wall Street, Starwood is better explained by Wall Street
going to the hospitality industry to grow. This explains why Starwood has hired
a retail executive to run Starwood’s finances and has creative innovative
approaches to its I.S., marketing, and human resources functions. This also
explains why Starwood is currently looking for a retail or entertainment
executive to take over Barry Sternlicht’s postion as C.E.O.

6.1 HOT

Starwood Hotels and Resorts brought in its REIT, Starwood Lodging Trust, as a
subsidiary to form a single C-corp that trades under the ticker HOT on the New
York Stock Exchange. This formation allows the corporation to avoid a law that
“precludes ‘paired share’ REITs from growing through future asset
acquisitions.”77

6.2 Corporate Officers

Mr. Barry Sternlicht – Founder and C.E.O
Starwood’s explosive and innovative growth has been largely credited to
founder and C.E.O, Barry Sternlicht, who is described as a dealmaker, an
innovator, and a philanthropist. In October of 2003, Barry Sternlicht announced

76 Ibid.
77 Hotel-online Website, “World Hospitality Forum” http://www.hotel-
online.com/Trends/Andersen/1999_Forum.html, (Viewed 12/05/2003).

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that he would be resigning as C.E.O. of Starwood as soon as a suitable
replacement was found. 78

Ever since he graduated from Harvard Business School in 1986, Sternlicht has
shown a flair for making big real estate deals in depressed markets. He was
instrumental in Chicago Real Estate developer JMB’s $404 million acquisition of
real estate developer Arvida Corporation from Walt Disney in 1987. ʹʹHe is very
smart, an awesome player,ʹʹ says Chicago real estate investor Samuel Zell. 79

ʹʹWhat has made us dangerous in the market is that we have real estate
background but we also understand Wall Street,ʹʹ says Sternlicht. 80
Delivering over 50% returns to his investors in the years immediately following
1991, Barry Sternlicht became known as a dealmaker to the folks on Wall Street.

Barry Sternlicht is largely credited for various innovations like introducing a new
guest room design for the Sheraton brand, creating Westinʹs ʺHeavenly Bedʺ,
launching Starwoodʹs Preferred Guest Program, and creating the W Hotels
brand. 81

Forunately, Barry Sternlicht has used his creative ambition to benefit more than
just Starwood but also charity concerns like diabetes and poverty prevention.
Several times he has been named the top individual fund raiser for the Juvenile
Diabetes Foundation and has also acted as Corporate Chairman of the charity’s
ʺWalk to Cure Diabetesʺ program in Manhattan. He also pledged his companies
support to now Secretary of State, Colin Powell that he would commit 40,000
Starwood employee hours to the ʺAmerica`s Promiseʺ effort through mentoring,
shadowing, and charity programs.82

After running Starwood day to day for 12 years, Barry Sternlicht has recently
decided he would rather spend his energies focusing on the company’s long term
direction. On October 18, 2003 Barry Sternlicht announced that he would resign
as C.E.O of Starwood but would maintain his position as Chairman of the Board.

78 Eric Gillin.” More Management Changes for Starwood Hotels”, on line at
http://www.thestreet.com/_tscs/funds/ericgillin/10125545.html (viewed 11/11/03).
79 Businessweek Online, “Fast Smart, and Dangerous!” online at
http://www.businessweek.com/1997/14/b3521116.htm, (viewed 11/22/2003).
80 Ibid.
81 Barry Sternlicht of Starwood Hotels & Resorts Worldwide to Provide Keynote Address at the 13th
Annual Hotel Investment Conference Asia Pacific (HICAP) online at
http://www.asiatraveltips.com/travelnews2002/2August2002HICAP.shtml (viewed 11/11/03).
82 Starwood – Chairman and Chief Executive Officer Sunday, August 10 2003 @ 12:00 PM GMT on line at
http://www.internettravelnews.com/article/100366 (viewed 11/11/03)

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ʺIn our opinion, Sternlichtʹs announcement relates to a desire to relinquish the
day-to-day operations while still retaining a strategic role in the company,ʺ said
Paul Keung, hotel analyst for CIBC, on Nov. 3, after Sternlicht announced he
would be stepping down. ʺThe stock traded down throughout the day, which we
believed represented uncertainty over his successor and the potential for key
executives, [like] Bob Cotter, COO, to walk.ʺ83

Neither Robert Cotter nor Ronald C. Brown left the firm. In fact, they officially
re-trenched themselves into the organization.

Mr. Robert F. Cotter – President and Chief Operating Officer
On November 10th, 2003 Robert Cotter doubled his involvement in Starwood by
accepting the role of company president in addition to his current role as Chief
Operating Officer responsible for the hotels and timeshares.84

Robert Cotter has been with the company (Sheraton) for 30 years:

1973 – 1988. Joined Sheraton and worked in a variety of sales and marketing
positions 85
1988 – 1989. Became the Director of Hotel Marketing for Sheraton86
1989 – 1991. Elected Vice President of Marketing87
1991 – 1993. Elected Senior Vice President, Direct Marketing and Product
Management 88
1993 – 1994. Appointed to Executive Vice President, Direct Marketing and
Product Management. 89
1994 – 1999. President and Chief Operating Officer, Europe
1999 – 2000. President, International Operations
2000 – 2003. Chief Operating Officer
2003. President and Chief Operating Officer

In addition to bringing 30 years experience to his new position, Mr. Cotter was
named one of the 25 most influential executives in the travel industry by
Business Travel News in 1992. For three consecutive years, Irish America

83 More Management Changes for Starwood Hotels, on line at
http://www.thestreet.com/_tscs/funds/ericgillin/10125545.html (viewed 11/11/03)
84 Ibid.
85 Ibid.
86 Ibid.
87 Ibid
88 Ibid.
89 Ibid.

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Magazine has named Mr. Cotter one of the top 100 Irish American executives in
corporate America. He serves on the Marketing Committee of the American
Hotel & Motel Association and is a Fellow of the Institute of Certified Travel
Agents.90

Ron Brown – Executive Vice President in Charge of Strategy
Mr. Brown joined Starwood in August 1995 as Senior Vice President and Chief
Financial Officer (CFO). In his 16 year career, Mr. Brown has was involved in
launching Initial Public Offerings, negotiating, forming mergers & acquisitions,
and general financing.91 On December 1st, 2003, Ron Brown switched positions
from CFO to Executive Vice President (EVP) of Strategy to continue his work
alongside Barry Sternlicht by creating the long-term strategy for Starwood.
Before working with Starwood he worked for four years with Doubletree
Corporation as Executive Vice President – Finance and Planning, Chairman, and
finally President.92

Vasant Prabhu – Chief Financial Officer
On December 1, 2003, Vasant Prabhu was named the new chief financial officer
of Starwood Hotels & Resorts Worldwide Inc. He will be responsible for the
accounting, tax, treasury, strategic planning, corporate development and risk
management functions of the corporation. Prabhu leaves his position as CFO of
Safeway Inc., and brings 20 years of experience to Starwood. Before Safeway,
Prabhu was the CFO at Pepsi Cola International and president of The McGraw
Hill Companies media division.93

Steven M. Hankin – Chief Marketing Officer & President, Starwood
Technology and Revenue Systems (STARS)
Mr Hankin is responsible for brand marketing, brand operations and creative
services as the CMO but he also has the unique position of serving as President
of STARS. Mr. Hankin joined Starwood in October 1999 as Senior Vice President,
Strategic Planning. He was appointed President of STARS in 2000 and was
appointed to his current position in 2003. Before joining Starwood, he was a
Partner at McKinsey & Company, Inc., the international management consulting

90 Ibid.
91 Starwood Hotels and Resorts “Management Profiles” online at
http://www.starwood.com/corporate/profile_detail.html?obj_id=0900c7b980001b44 (viewed 11/11/03).
92 Ibid.
93 Pacific Business News. “Brown Shifts to new post, new CFO for Starwood.” Online at
http://pacific.bizjournals.com/pacific/stories/2003/12/01/daily17.html (viewed 12/4/03)

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firm.94 In his current position he reports to Robert Cotter, Chief Operating
Officer.95

David K. Norton – Executive Vice President, Human Resources
Mr. Norton has been the Executive Vice President-Human Resources for the
Corporation and Vice President-Human Resources of the Trust since May 2000.
Prior to joining the Company, Mr. Norton held various positions with PepsiCo,
Inc. from September 1990 to April 2000 including Senior Vice President of
Human Resources for Frito-Lay, from November 1995 to April 2000 and Senior
Vice President of Human Resources of PepsiCo Food Systems from December
1994 to October 1995.96

“Daveʹs large company domestic and international experience and strong
organizational skills honed at Pepsico will be a tremendous plus to Starwood
going forward,” Robert Cotter said.97

David Norton has 23 years of domestic and international experience. Mr. Norton
will lead the development and acceleration of the companyʹs human resources
related initiatives including leadership development, associate capability
building, diversity, community service, and associate recognition.98

Theodore W. Darnall – President, Real Estate Group
Mr. Darnall was Executive Vice President and COO of Starwood Lodging
between April 1996 and April 1998.99 From April 1998 to July 1999 Mr. Darnall
was Executive Vice President, North America Operations. From July 1999 to
August 2002, he was the President of the Companyʹs North America Group. Mr.
Darnall has been the President of the Real Estate Group since August 2002.

94 Starwood Hotels and Resorts, “Management Profiles” online at
http://www.starwood.com/corporate/profile_detail.html?obj_id=0900c7b9801c898b (viewed 12/03/03).
95 Ibid.
96 Forbes. “Starwood Names New CFO” online at
http://www.forbes.com/finance/mktguideapps/personinfo/
FromPersonIdPersonTearsheet.jhtml?passedPersonId=136134 (viewed 12/04/03).
97 Time Share Beat “Starwood Names David Norton Executive Vice President of Human Resources” online
at http://www.thetimesharebeat.com/archives/2000/htl/htlapr60.htm (Viewed 12/03/03).
98 Starwood Hotels and Resorts. “Management Profiles”; on line at
http://www.starwood.com/corporate/profile_detail.html?obj_id=0900c7b980053c6f
99 Forbes. “Starwood’s Real Estate.” http://www.forbes.com/finance/mktguideapps/personinfo/
FromMktGuideIdPersonTearsheet.jhtml?passedMktGuideId=363956 (viewed 11/11/03).

Starwood Hotels & Resorts – A Case Study, 31

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Prior to joining Starwood, Darnall was with Interstate Hotels Corporation for
more than 14 years, where he held a variety of management positions and, in
1995, was named Senior Vice President of Operations.100

Roeland Vos – President, Europe, Africa, and Middle East
Mr. Vos joined Starwood Hotels & Resorts in 1982 as Management Trainee at the
Sheraton Brussels Hotel & Towers, and since then has held a number of
management positions. Currently, he directly oversees the operation for 169
hotels and resorts in 46 countries. He was appointed to this position in
September 2001 and is based at the Companyʹs EAME Divisional Office in
Brussels, Belgium.101

Prior to this appointment, Roeland Vos served as President, Europe from January
2000 and preceding this he served as SVP, Area Director for Italy & Malta, a
position he held from 1998 to 1999.102

6.3 Board of Trustees

Starwood’s heavy-hitting Board of Trustees fits together strategically, like a well-
balanced portfolio of influences, to truly benefit the company. According to
Starwood’s website, the Board Members give Starwood the “possibility to
influence the unions or expected regulations from the government body through
various interactions, to the best mutual results.” 103 The current Board was
designed to possess expertise in areas including technology, globalization and
corporate experience.104

In June of 2002 VHS International presented Starwood an award for “Top
Operating Board of Directors for 2001, for being the most effective board in
leading a public lodging company”.105

100 Starwood Hotels and Resorts. “Management Profiles” on line at
http://www.starwood.com/corporate/profile_detail.html?obj_id=0900c7b980078767 (viewed 11/24/03).
101 Ibid.
102 Ibid.
103 Starwood Hotels & Resorts. “SHR Worldwide, Inc. Appoints Ambassador Charlene Barshefsky to
Board of Directors” on line at
http://www.hospitalitynet.org/news/4009853.search?query=+starwood%2c+ambassador+charlene+barshefs
ky+ (viewed 11/11/03)
104 Ibid.
105 Hotel News Resource. “Starwood Hotels & Resorts Receives HVS Executive Search Lodging
Leadership Award for Board Performance” online at http://www.hotelnewsresource.com/article1054.html
(viewed 11/22/03).

Starwood Hotels & Resorts – A Case Study, 32

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The current board has 11 members with diverse backgrounds. Among the boards
most famous members are Ambassador Charlene Barshefsky and former Senate
Majority Leader George J. Mitchell.106

Ambassador Charlene Barshefsky – According to Barry Sternlicht, ʺAmbassador
Barshefsky has spent the last decade at the forefront of global trade policy and
international business, and her expertise will be a tremendous asset to Starwood,
which is one of the worldʹs largest global hotel companies with hotels in more
than 80 countries.ʺ107

Senator George J. Mitchell – Senator Mitchell is a very active businessman. In
addition to serving on Starwood’s Board, he also serves as director for The Walt
Disney Company, Federal Express Corporation, Xerox Corporation, UNUM
Insurance Corporation, KTI Inc., Unilever, and Staples, Inc.108

More importantly, as Chairman of the National Healthcare Commission, George
Mitchell was a driving force behind the American with Disabilities Act109 which,
according to the Starwood website, will help Starwood be “proactive in this
concern and plan ahead of the competition necessary measures to comply to any
new requirements.” 110 He is also chairman of the International Crisis Group.

Barry Sternlicht – is the only corporate executive on the Board and serves as the
Chairman, a role that he will continue even after he resigns as C.E.O.

Jean-Marc Chapus – is the Managing Director and Portfolio Manager of Trust
Company of the West, an investment consulting firm, and President of
TCW/Crescent Mezzanine L.L.C., a private investment fund.

Bruce W. Duncan – is currently a private investor and formerly the Chairman
and CEO of The Cadillac Fairview Corporation Limited, one of the largest real
estate companies in North America.

106 Starwood Hotels & Resorts. “SHR Worldwide, Inc. Appoints Ambassador Charlene Barshefsky to
Board of Directors” on line at
http://www.hospitalitynet.org/news/4009853.search?query=+starwood%2c+ambassador+charlene+barshefs
ky+ (viewed 11/11/03)
107 Ibid.
108 Bowdoin Library. “The George J. Mitchell Papers” online at
http://library.bowdoin.edu/arch/mitchell/research/bio.htm (viewed 11/11/03).
109 Lecture Now. “Jeri Charles represents the world’s leading speakers,” online at
http://www.lecturenow.com/People/GeorgeMitchell.htm (viewed 11/11/03).
110 Bowdoin Library. “The George J. Mitchell Papers” online at
http://library.bowdoin.edu/arch/mitchell/research/bio.htm (viewed 11/11/03).

Starwood Hotels & Resorts – A Case Study, 33

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Eric Hippeau – is formerly Chairman and CEO of Ziff-Davis, and currently
President and Executive Managing Director of Softbank Corp.

Stephen R. Quazzo – is Managing Director, Chief Executive Officer and co-
founder of Transwestern Investment Company, L.L.C., a real estate principal
investment firm.

Thomas O. Ryder – is Chairman of the Board, Chief Executive Officer and a
Director of Readerʹs Digest Association, Inc.

Daniel W. Yih – is a Principal, Portfolio Management, with GTCR Golder Rauner,
L.L.C., a venture capital firm.

Kneeland C. Youngblood – is a managing partner of Pharos Capital Group,
L.L.C., a private equity fund focused on technology, business service and health
care companies.111

6.4 Functional Resource Areas

6.4.1 Human Recourses

As of December 31, 2002, Starwood employed approximately 105,000 persons, of
whom approximately 60% were employed in the United States. Generally, labor
relations have been maintained in a normal and satisfactory manner, and
management believes that the Companyʹs employee relations are good.112

Barry Sternlicht, Chairman and CEO said, “The head of Human Resources is a
very important position in our global service organization as we continue to
refine our corporate culture. One of our corporate goals is to make Starwood one
of the best places to work in America. We plan to achieve this by accelerating our
initiatives on diversity, welfare to work programs, community service initiatives
and associate recognition programs. Dave shares this commitment and vision.”

111 Starwood Hotels & Resorts. “SHR Worldwide, Inc. Appoints Ambassador Charlene Barshefsky to
Board of Directors” on line at
http://www.hospitalitynet.org/news/4009853.search?query=+starwood%2c+ambassador+charlene+barshefs
ky+ (viewed 11/11/03)
112 Starwood Hotels and Resorts. “Company Profile” online at
http://www.starwood.com/corporate/company_info.html , (viewed, 11/16/2003)

Starwood Hotels & Resorts – A Case Study, 34

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Starwood Hotels and Resorts Worldwide Inc. provides continuous and intensive
training to their employees, training new associates in the ways of Starwood
Preferred Services. All training programs are selected and performed to help add
value to the professional needs of their business traveler guests and other
customers.

6.4.1.1 Training

One example of a training initiative that is meant to make a large impact in
Starwood is Six Sigma. The goal is to standardize training across Starwood’s
vast holdings in an effort to increase revenues. Since its merger with the ITT
Corporation in 1998, Starwood has struggled to integrate the varying properties
under one company culture. Now, Mr. Sternlicht says, it is time to ʺintegrate the
company spiritually,ʺ and to ʺbrand a culture.ʺ113

At its start, 130,000 employees were targeted for training. Starwood hoped to
increase annual cash flows 13% by 2006 through this new training initiative
which will align financial improvements to managers’ and executive’ earnings.114

The titles of several other training initiatives like; Productivity Training, Training
Skills Workshop, Train the Trainer, Creative Leadership, Great Beginners, Every
Second Counts -Telephone Etiquette Standards, and First Aid at Work, give clues
as to the goals of Starwood’s company culture.

6.4.1.2 Diversity

ʺWhen we sat down to write Starwoodʹs corporate values statement several years
ago the first words we put on paper were ʹWe value the diversity of people,
cultures and ideas and promise to improve the communities in which we do
businessʹ,ʺ says Sternlicht. ʺAs we operate in 80 countries it is simply good
business to be at least as diverse as the customers we serve. We continuously
strive to show our commitment to these principles and are honored to be
recognized for these efforts.ʺ115

In 2003 Barry Sternlicht won The Diversity Best Practices Leadership Award for
“creating a corporate culture that embraces and drives diversity success

113 FACTIVA. The Asian Wall Street Journal, 2/6/2001 (Marketing & Media), (viewed 12/2/2003)
114 Ibid.
115 Pasific Business News, “Sheraton Parent Honored for Diversity Programs” on line at
http://pacific.bizjournals.com/pacific/stories/2003/06/02/daily15.html (viewed 11/11/03).

Starwood Hotels & Resorts – A Case Study, 35

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throughout Starwoodʹs portfolio of brands.”116 The award reflects a number of
initiatives to create diversity including special recognition of the community,
philanthropic and supplier diversity, chairing and supporting diversity councils,
and ensuring top management support.117

Especially noteworthy are Starwood’s internal diversity website which is a
source of diversity education and information for all employees, and Starwood’s
Diversity Council which tackles diversity “Just as we approach other vital
business imperatives.”118 The Diversity Council is a team of top executives who
meet regularly to develop and reform the company’s strategy toward diversity.
The council has begun training senior management in a program “which helps
participants uncover their inner biases.”119

One interesting example of diversity and training at Starwood that made the
presses was their Sheraton Spa Resort at Gila River Indian Community in
Phoenix. Starwood gave hiring priorities to local tribe members and brought in
experts from other Starwood hotels to assist in an intensive training process to
help community members understand the goals of the property and the
organization.120

6.4.2 S.T.A.R.S (Starwood Technology And Revenue Systems)

STARS is an innovative functional area that combines the companyʹs global
technological development, customer marketing, and distribution activities into
a separate subsidiary. Collectively, these three techno-heavy groups are
designed to maximize revenue per available room (RevPAR).

Current trends in technology have left hotel companies struggling to integrate
the computer systems that they use in various functional areas that would
benefit from business process re-engineering. Starwood’s approach is to bundle

116 Ibid.
117 Times Share Beat. “Sternlicht Recognized for Company-Wide Commitment to Diversity and Inclusion
– Press Release” Starwood Hotels & Resorts Worldwide, Inc. June 4, 2003, on line at
http://www.thetimesharebeat.com/2003/htl/june/0604-04h.htm (viewed 11/11/03).
118 Starwood Hotels and Resorts. “Company Values” Online at
http://www.starwood.com/corporate/company_values_div.html (viewed 11/11/03).
119 Starwood Hotels and Resorts. “Company Values” online at
http://www.starwood.com/corporate/company_values_div.html (viewed 11/16/03)
120 The business Journal Phoenix. “Starwood Trains Tribal Members on Resort Work.” on line at
http://www.bizjournals.com/phoenix/stories/2002/09/09/story8.html (reviewed 11/14/03).

Starwood Hotels & Resorts – A Case Study, 36

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the Information Technology (IT) function with marketing and property
management into one aligned subsidiary. IT manages the data that marketing
analyzes to procure customers and property management uses to serve guests.
The STARS team encompasses interactive marketing, direct marketing, Starood
Preferred Guests (SPG), customer marketing, property technology, pricing and
distribution, and the efficient operation of Starwoodʹs call centers.121

6.4.3 Marketing

Starwood takes a flexible approach to marketing in order to try and get the
brands through as many strategic channels as they can. Innovative rewards
programs, partnering, consolidation within brands, and management systems
are among a few of the examples of Starwood’s explorational marketing.

As mentioned in section 5.2.2, SPG is the best program in the industry for three
years running. Being flexible in mixing their chains and elminating blackout
dates has taken Starwood to the top of the heap in rewards programs. 122

In addition to earning points while staying at Starwood, the SPG reward
program has made several unique partnerships with airlines like British Airways
so that points and miles can be used interchangeably.

ʺThe true beneficiaries of the partnership between British Airways and Starwood
will be our frequency program members, who will now be able to earn and
redeem miles and points in virtually every corner of the globe,ʺ said Hoyt H.
Harper II, vice president, marketing programs for Starwood Hotels Resorts
Worldwide, Inc.”123

Another interesting partner in points is Ameritrade, the internet stock broker
firm, so that points can be earned by opening account or adding new funds to
existing accounts.ʺ Weʹre working closely with Ameritrade to extend the benefits
of the Starwood Preferred Guest program to new and existing members,ʺ says

121Hotel News Resource. “Starwood Promotes Members of its Management Team”
http://www.hotelnewsresource.com/article7678.html (viewed 11/13/03).
122 Freddie Awards. 14th Annual Freddie Awards Press Release” online at
http://www.freddieawards.com/press_2001.htm (Viewed 11/15/03).
123 Hotel Online, “British Airways and Starwood Hotels Forge Marketing Partnership” online at
“http://www.hotel-online.com/News/PressReleases1999_2nd/Apr99_StarwoodBA.html, (viewed
12/01/2003).

Starwood Hotels & Resorts – A Case Study, 37

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Jim Berra, vice president, loyalty marketing for Starwood. ʺOur shared customers
will win with valuable Starpoint earning opportunities and benefits.ʺ 124

In other Marketing partnerships, Starwood signed an agreement with Expedia in
1999 that allows travelers to book trips, air travel and car rental directly from
Starwoodʹs websites.ʺMSN Expedia attracts the worldʹs most frequent travelers —
in fact, their demographic is virtually identical to Starwoodʹs,ʺ said David Van
Kalsbeek, Senior Vice President of Sales and Marketing for Starwood. ʺNot only
does MSN Expedia give us access to a perfectly targeted market, but it is yet
another important way for Starwood to capitalize on the worldʹs fastest growing
form of commerce.ʺ 125

Sometimes an internal, rather than an external partnership is necessary to create
successful marketing strategies, as was the case with Sheraton Waikiki’s ʺstay-at-
one-play-at-allʺ theme. The marketing strategy consolidated the marketing
departments of four Waikiki properties so that they could compete with
competitors like the large Hilton Hawaiian Village. 126

ʺThe sales team has been restructured … to respond to fast-breaking market
trends,ʺ said Karen Hughes, Regional Vice President of Sales and Marketing in
Hawaii and French Polynesia for Starwood Hotels & Resorts Worldwide Inc.
“Under the new team structure, one representative handles a client for all
properties, handling quotes on group rooms, function space, meeting availability,
catering and corporate rates.”127

Giving marketing teams autonomy to group as they see fit may pay off for
resorts like Waikiki, but when you offer that flexibility globally, some
distribution issues an erupt. Starwood’s problem was the money it was
spending on thousands of images and logos used in countless global marketing
campaigns.

“Media is expensive to create; therefore, careful planning goes into each
marketing project to ensure the programʹs quality and effectiveness. As
Starwood grew, marketing programs become localized, distributed and

124 Hospitality Net, “Ameritrade and Starwood Launch Marketing Partnership”
http://www.hospitalitynet.org/news/4015496.search?query=starwood+marketing, (viewed 11/30/2003).
125 Hotel Online, “Starwood and Microsoft’s MSN Expedia Sign Global Marketing Agreement” online at
http://www.hotel-online.com/News/PressReleases1999_1st/Mar99_MicrosoftStarwood.html, (viewed
11/30/2003).
126 Pacific Business News, “Starwood focuses marketing in one group” online at
http://pacific.bizjournals.com/pacific/stories/2003/09/22/story5.html (Viewed 11/24/03).
127 Ibid.

Starwood Hotels & Resorts – A Case Study, 38

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differentiated, increasing the complexity of creating and managing Starwoodʹs
marketing and brand media.”128

Starwood found a solution in a media archiving system called iMarc that allows
marketing employees to easily distribute the media they need in a timely manner.
“The archive requires no special skills or software to use. Both internal marketing
stakeholders and external marketing partners have easy, yet secured access to the
archive, facilitating media sharing in a consistent manner. The archive leverages
a self-service model, for the most efficient control and distribution of media
assets.”129

6.4.4 INFORMATION SYSTEMS

Combining over 700 properties and six brands of information has forced
Starwood’s IT to come up with creative solutions toward customer relationship
management (CRM), research, and budgeting system technology.

Group 1 Software, a CRM software provider, created a company-wide data
quality system especially for Starwood in early 2002. “By consolidating
information from multiple databases and data sources, the Group 1 solution will
enable us to obtain a more accurate and complete view of our guests,ʺ said Tom
Conophy, senior vice president and chief technology officer at Starwood.130

Starwood also needed a creative solution to aid its executives in their job to plan
strategically and flexibly. The company began using an application called
Execuvue that allowed flexible analysis of Smith Travel Research data, as well as,
a new way to plan budgets.

“The hospitality industry has to take a fresh view of things in the current
economy. Budgets are a prime example. There are times when budgets are
counter productive, and a classic example is the period we are in now. When we
budgeted 2001 last October things looked fabulous; two months later the
economy was in the tank. One of our biggest challenges is learning to rely less on
annual budgets, and performing more on our real-time revenue stream.
Starwood is way ahead of the industry in this,” Rex Warren, Starwood’s Vice

128 iMarc, “Portfolio – Starwood Archive” online at
http://www.imarc.net/portfolio/starwood.php, (viewed 12/01/2003).
129 Ibid.
130 Dienekis, “Business Deals – Tuesday, February 12 2002” online at http://www.dienekis.com/crm-
news/EpEFVEkVZEFs.php, (viewed on 12/01/2003).

Starwood Hotels & Resorts – A Case Study, 39

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President of Finance for North America observed.131 Execuvue enables managers to
look at the numbers “any way they want to” in order to answer their own questions,
instead of just taking financial data in a standard report. The new system saves
technicians “hours of massaging” data for some managers who required “laundry data
down to the ledger level.”132

131 Aptech, “Success Stroies.” Online at http://www.aptech-inc.com/stories/starwood.html (viewed
11/18/03).
132 Ibid.

Starwood Hotels & Resorts – A Case Study, 40

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7. FINANCIAL STATUS

7.1 Revenue Sources of the Company

The companyʹs operations are grouped into two business segments, hotels and
vacation ownership operations. The companyʹs revenue and earnings are derived
primarily from hotel operations, which include revenues from the operation of
the companyʹs owned hotels, fees from management contracts, and the franchise
fees.133

In 2002 the hotel operations generated $3,516 million, while management &
franchise generated $ 780 million.

Exhibit 6
Revenue streams

Owned leased consolidated joint venture 3232
Unconsolidated joint venture 284
Management & Franchise 780
Vocation Ownership 363
——-
Total 4659

Source: 2002 Annual Report

133 Starwood Hotels & Resorts Worldwide. Starwood Hotels & Resorts Worldwide 2002 Annual Report,
pp9.

Starwood Hotels & Resorts – A Case Study, 41

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Exhibit 7
Contribution to Total Revenue

Conttibution to Total Revenue

Hotel
74%

Vacation Club
8%

Mgt & Frchs
18%

Source: Annual Report 2002

7.2 Hotel Performance

The companyʹs operating results for year 2002 were poor due to a weak
worldwide economy and a lack of lodging demand from transient and business
travelers. Owned hotels in particular suffered from this lack of demand.
Starwood’s owned properties’ revenues decreased 3.3% to $3.232 billion from
2001 to 2002, while overall revenues (including revenues from Vacation
Ownership) decreased 2.2% from $3.967 billion to $3.879 billion.

Exhibit 8
Total Revenues and EBITDA across all hotel properties

Owned, Leased And Consolidated Joint
Venture Hotels (in Millions)

Year 2002 2001 2000
Revenues $3,232 $3,343 $3,659
EBITDA $855 $978 $1,226
Total
Properties $163 $207 N/A
Guestrooms 56,000 73,000 N/A

Source: Annual Report 2002

Starwood Hotels & Resorts – A Case Study, 42

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The decrease in revenues from owned, leased and consolidated joint venture
hotels is due primarily to decreased revenues at the Companyʹs Same-Store
Owned Hotels. Revenues at the Companyʹs Same-Store Owned Hotels decreased
6.0% to $3.013 billion in 2002 when compared to the same period of 2001.134 The
following table summarizes REVPAR, average daily rates (ADR) and average
occupancy rates on a year-to-year basis for Starwood’s owned, leased, and
consolidated joint venture hotels.

Exhibit 9
RevPAR, ADR and Occupancy

Year Ended December 31
2002 2001 2000

Worldwide
REVPAR $95.46 $101.44 $115.01
ADR $150.42 $155.77 $161.59
Occupancy 63.50% 65.10% 71.20%

North America
REVPAR $94.40 $100.42 $ 113.81
ADR $145.61 $152.39 $ 157.44
Occupancy 64.80% 65.90% 72.30%

International
REVPAR $98.65 $104.55 $ 118.86
ADR $166.35 $166.55 $ 175.87
Occupancy 59.30% 62.80% 67.60%

Source: Annual Report 2001 and 2002

7.3 Cash Flow

The company mainly generates cash flow from operation activities to “fund the
Companyʹs operating expenses, interest payments on debt, maintenance capital
expenditures and distribution payments by the Trust.”135 Despite weak
economies around the globe, Starwood expects to meet its cash requirements. In
2002, Starwood shifted from a quarterly distribution to an annual distribution,

134 Ibid, p23.
135 Ibid, p 27.

Starwood Hotels & Resorts – A Case Study, 43

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and paid the 2002 distribution of $0.84 per share to shareholders in January
2003.136 Financial statements are included in Appendices I and II.

8. CONCLUSION

In its brief 12 years, Starwood has risen from nothing to a major competitor in the
global hospitality industry. Starwood now has a major brand in the top three
slots of the luxury, upper-upscale, up-scale, and mid-scale markets and is
working to increase the value of each of those properties. Starwood’s pioneering
approaches to customers and employees have won it several awards in the
industry. The company’s current search for innovation in the retail and
entertainment industry continues that tradition of innovation – otherwise unique
in the hospitality industry.

Also, Starwood has had a difficult time satisfying its mission to “exceed
shareholder expectations” in the past couple of years due to increase in global
instability and the significant decrease in customers’ willingness to visit up-scale
properties. Should the slowed global economy continue, Starwood will have to
make some difficult decisions regarding its heavy debt burden. Moreover, the
difficult challenge of transplanting C.E.O. Barry Sternlicht’s passion and vision
onto a new leader will have the most significant impact on the company’s future
success.

136 Ibid, p27.

Starwood Hotels & Resorts – A Case Study, 44

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Appendix I. Starwood Hotels and Resorts Consolidated Balance Sheets.

Starwood Hotels & Resorts – A Case Study, 45

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Appendix II.

Writtenby Christian Boyens, Ji-Young Cha, Ronit Livneh, Felicia Pan-Fea, Vishal Singh and Pierre-
Edouard Vintrou under the direction of Jeffrey S. Harrison at the School of Hotel Administration, Cornell

University. Copyright c Jeffrey S. Harrison.
This case study was written for the purposes of classroom discussion. It is not to be duplicated or cited in
any form without the copyright holder’s express permission. For permission to reproduce or cite this
case, contact Jeffrey S. Harrison (harrison@richmond.edu). Permission to use in the classroom will be
granted free of charge.

The Center for Hospitality Research

AT CORNELL UNIVERSITY

JetBlue: Flying for Success

“Imagine how you would create an airline if you

were building it from scratch. No ridiculous promises of
‘self-actualization’ onboard, no exorbitant airfares, no
cattle-train mentality, no hassles.”

— www.jetblue.com – Definition of company culture

JetBlue Airways (JetBlue) is the new discount airfare business model for the

airline industry to follow. A young company of 4 years has been able to stand strong
even after the tragic events of September 11th. As the industry struggles to return to
stability, JetBlue has been able to overcome the challenges and double their revenue.
JetBlue’s strengths can be pinpointed to executive management’s experience within the
airline industry as well as JetBlue’s ability to differentiate itself from the competition.
Some of its most important strategies are limiting operating costs, flying with a new
airbus A320 Fleet, developing a quality brand, hiring dedicated employees, and
pursuing the latest technology. To expand more quickly, JetBlue has decided not to pay
any dividends to their stockholders, but rather use their earnings to continue further
growth of the company.

HISTORY
JetBlue is an airline with a very brief but interesting five-year history. During

February 1999, David Neeleman announced his plan to start a new discount airline. He
wanted to offer “a low-fare, low-cost passenger airline that provide[d] high quality

JetBlue: Flying for Success, 2

customer service”.1 Neeleman was not new to the industry; he was actually a cofounder
of Morris Air, one of the first airlines to offer ticketless travel.2 After selling Morris Air
to Southwest Airlines, Neeleman designed a reservation system, “Open Sky”, that
“integrated electronic ticketing, Internet booking and revenue management tools and
generated timely operational and financial reports”3. After he sold his new reservation
system to Hewlett-Packard, Neeleman was ready to launch his new company,
“JetBlue”.

The airline was originally introduced as “New Air” but later changed its name to

“JetBlue”. “’JetBlue’ mean[s] a true, deep, and absolute blue”4. The basic strategy of the
new airline was to offer discount airfares that “provided high-quality customer
service”5 on point-to-point routes. All of the flights were designed with the comfort of
customers in mind. Planes were equipped with 162 leather seats with a personalized
satellite TV that had access to 24 channels of Direct TV at each seat. The flights mostly
serviced small markets and major metropolitan areas. The company started with the
initial investment of $130 million, which was the largest capitalization venture in the
history of airline start-ups.6 Neeleman wanted to build an organization where the
employees took pride in their company, and achieved this by instilling JetBlue
employees with the company’s five core values—safety, caring, integrity, fun and
passion. This has helped the employees focus on the strategy of the company.7

A year after the conception of Neeleman’s idea, a base headquarter was

established at New York’s John F. Kennedy International Airport. JetBlue’s debut was
originally estimated to open at a stock price ranging from “$22 to $24 per share for 5.5
million shares, but [the] airline’s shares opened at $37.52. The stock traded as high as
$46.24 before closing at $45.”8

JetBlue’s inaugural flight was between JFK and Fort Lauderdale. Within the first

six months, JetBlue was able to expand their services to Buffalo (NY), Tampa (FL),
Orlando (FL), Ontario (CA), Rochester (NY), and Oakland (CA).9 As revenue increased,
the company was able to continue expansion to several more cities including Burlington
(VT) and West Palm Beach (FL). Within a year, JetBlue served its one millionth
passenger. In its first year alone, JetBlue had a net income of $38.5 million.10

On March 20, 2001, JetBlue was ranked by Zagat as the second best airline

“overall”, “comfort” and “service”11. During that month, JetBlue serviced its’ two

1 http://www.ipo.com/ipoinfo/profile.asp?p=FINA&eid=6606&page=company, November 20, 2002.
2 http://www.cio.com/archive/070102/jetblue_content.html, November 18, 2002.
3 http://www.cio.com/archive/070102/jetblue_content.html, November 18, 2002.
4 http://www.epinions.com/content_71628852868, November 18, 2002.
5 “Prospectus: JetBlue Airways Common Stock,” 11 April 2002.
6 http://www.planebusiness.com/tscolumns/tscolumns/ts012501.html, November 20, 2002.
7 http://www.hratworkco.com/July2002.htm, November 19, 2002.
8 http://www.flagventure.com/portco_news.asp, November 18, 2002.
9 http://www.jetblue.com/learnmore/timeline.html, November 18, 2002.
10 http://www.kbcc.cuny.edu/UCVE/JetBlue%20Case , November 20, 2002.
11 http://www.jetblue.com/learnmore/timeline.html, November 18, 2002.

JetBlue: Flying for Success, 3

millionth passenger. As of February 28, 2002, the airline operated “108 flights per day,
including 52 daily flights between JFK and Florida, 26 Daily flights between JFK and
upstate New York and 18 daily flights between JFK and the western United States”12.

After the tragic events of September 11th, 2002 (9/11) JetBlue remained strong

and fiscally sound. Even though there was a drastic decrease in occupancy for months
after the event, JetBlue “did not lay-off or furlough any employees nor did [it] defer any
aircraft”.13 Instead, it was one of the first airlines to install bullet proof and force
resistant cockpit doors across their fleet. It also took the initiative of installing AD video
cameras in its fleet by March 2002.14 While still recovering from the hit of 9/11, JetBlue
made their initial public offering (IPO) on April 12, 2002.15

On June 18, 2002, JetBlue introduced “TrueBlue”, the first loyalty program for

low-fare carriers. The program was designed for customers to collect “points” instead
of “miles” every time they chose JetBlue over other airlines. Within a month of
introducing “TrueBlue”, over 94,000 people signed up for the program16. Each trip was
designated a certain number of points. After the customer received 100 points, the
customer was given a free roundtrip ticket.17

On October 24, 2002, the Board of Directors announced that they had planned a

three-for-two stock split. The actual split will occur on December 12, 2002. After the
stock split, there will be 63 million shares of outstanding shares of common stock.18 At
the same time, the company initiated a stock purchase plan for their crewmembers.19

Even with a short history, the company has proven its success to be

incomparable to any other airline company. The company has continued to expand in
recent months to Syracuse (NY), Long Beach (CA), New Orleans (LA), Denver (CO),
San Juan (PR), Seattle (WA), Las Vegas (NV) and Washington (DC). The company
plans to add an additional 18 daily flights, increasing operations to 102 daily flights and
20 destinations by the end of the year.20

12 “Prospectus: JetBlue Airways Common Stock,” 11 April 2002.
13 http://media.corporate-ir.net/media_files/nsd/jblu/custom/transcript.htm, November 20, 2002.
14 http://www.ad-aero.com/latest/newsrel/jetblue/, November 20, 2002.
15 http://biz.yahoo.com/p/j/jblu.html, November 19, 2002.
16 http://media.corporate-ir.net/media_files/nsd/jblu/custom/transcript.htm, November 20, 2002.
17 http://www.jetblue.com/learnmore/pressDetail.asp?newsId=130, November 19, 2002.
18 http://news.cnet.com/investor/news/newsitem/0-9900-1028-20575971-0.html, November 18, 2002.
19 http://media.corporate-ir.net/media_files/nsd/jblu/custom/transcript.htm, November 20, 2002.
20 http://news.airwise.com/stories/2001/11/1005138308.html, November 20, 2002.

JetBlue: Flying for Success, 4

ENVIRONMENTAL ANALYSIS
The Broad Environment.
This section serves to discuss the various factors in the broad environment

affecting the airline industry. Socio/cultural, economic, political, and technological
factors are all influential to the airline industry. It is important to acknowledge that as
every factor interacts with and influences the other, the boundaries between these
factors can get blurred. Therefore, certain factors which are included in one category
may apply to another.

Socio/cultural Influences
Globalization. The airline industry lags behind other industries in carrying out

globalization. Although deregulation in 1978 released the airline market to open
competition and liberalization, some regulatory movements hinder the airlines from
owning “sufficient scale to dominate their surrounding markets and [volumes] to lower
unit costs.” 21 This is exemplified by the U.S. Justice Department’s denial of the merger
between United Airlines and US Airways fearing the creation of a monopoly.

In many respects, globalization is an inevitable and necessary step for airlines

which are struggling to simply stay in business and out of bankruptcy. Globalization
will enable airlines to achieve economies of scope and scale, seamless service, and lower
costs and prices by exposing them to the broader market and to a bigger customer base.
However, the industry must answer the following question before it can take any steps
forward: Will the airlines overcome “regulatory-imposed limits” and successfully join
in the globalization trend?22

Mergers. Since deregulation, the airline industry has to experience a great deal

of turbulence in its economic performance. Competition has become more sever with
the financial performance extremely uneven. Thus, a new trend toward mergers
between airlines has surfaced in the industry. There exists two opposing views on the
issue of airline mergers. . Some argue that the drive for scope and scale is the best
option to revive the depressed airline industry. Increasing scope and scale, meaning
creating larger companies, will allow airlines to increase their levels of such intangibles
as knowledge, management systems and brand, and such tangibles as aircraft and
communication systems.23 In response to the view that the mergers will cause a
significant decrease in competition, merger advocates assert that mergers will, in fact,
create more competitors. According to the magazine Airline Business, “the top 25
groups control close to 70% of world revenue and the top half dozen are bigger than the
entire industries of regions like Africa or even South America.”24 So, it is not surprising

21 Kevin O’Toole, “Lost by line,” Airline Business 1 March, 2002.
22 Daniel Yergin, et al., “Fettered Flight: Globalization and the airline industry,” Global Decision Group 10 Oct. 2000:
3.
23 Daniel Yergin, et al., “Fettered Flight: Globalization and the airline industry,” Global Decision Group 10 Oct. 2000:

3.
24 Chris Thornton, “Who’s afraid of mergers?” Airline Business September 1999: 99.

JetBlue: Flying for Success, 5

that second tier carriers rush to increase their size and join the battle against the bigger
players in the industry.

The U.S government’s recent policy change regarding mergers also supports the

view of merger advocates. In December, 2001, the Bush Administration promised to
financially back the merger of weak carriers with strong ones. When questioned with
the possibility of airfare increase, the Administrations responded that low-fare airliners,
such as Southwest or Jetblue would discourage uncontrolled fare increase by their
larger partners.

The other argument is that “Where and when competition exists, consumers

benefit. Where and when it does not, they suffer.”25 In short, competition benefits
consumers. For instance, Air Canada quickly removed duplication of service after the
merger between Air Canada and Canadian Airlines resulting in 20% fewer flights than
the two separate airlines previously provided.26 As this example illustrates, the merger
between major airlines would give too much market control to one player, and may
cause customers to experience fare increases, reduced flights, or bad service.

September 11. One of the most influential socio-cultural factors affecting the

airline industry was the impact of the 9/11 terrorist attacks. Although the economy had
already begun to turn down prior to 9/11, the attacks on both the World Trade Center
and the Pentagon, pushed the economy more quickly and more deeply into recession.
It also caused for people to doubt the safety of public air travel which led to a marked
decrease in demand.

According to the Department of Transportation (DOT), there was a revenue drop

for the total industry of 38%. This was the worst recession the American airline industry
had ever faced. This drop was due to two factors, an increase in operating costs coupled
with a decrease in revenues. The increase in operating costs was the result of new
security regulation from official directives, new cost of delays, and increases of labor
costs as well as increase in insurance premiums.

In addition, demand dropped due to an increased fear of flying and heightened

security which deterred many potential passengers. The ability to be at a specific time
across the country without delay or without standing in line for a long time at the
airport was a critical need of airline customers which airlines were not capable of
meeting.27 Yet, since 9/11, air traffic has greatly increased and continues to increase.
Pre-9/11 passenger levels were predicted to return by 2003.28

25 Mark N. Cooper, “Freeing Public Policy from the Deregulation Debate,” Presented at American Bar Association 22

January 1999.
26 James Dune, “Air monopoly,” CBS news 10 October 2000.
27 Daniel Kasper, “The aftermath of 9/11: Implication for Airline Industry Structure & Competition,” MIT Boeing

Conference on Air Travel, 26 March 2002.
28 “Industry Survey,” Standard & Poors, (2002), March 28, 2002.

JetBlue: Flying for Success, 6

Weather. The weather is an unpredictable variable with a potential short-term
effect on airline costs and operations.29 For instance, the weather is the second largest
cause of airline accidents after pilot errors, and attributes more than 70% of delays. Air
Transport Association (ATA) reported that the direct annual cost caused by diversion
and cancellation amounts to $47 million and $222 million, respectively. In addition, the
wind speed and temperature influence the fuel consumption of the aircraft while other
weather conditions such as hurricane, ice and fog often entail flight cancellation.30

In addition to direct costs, there are indirect costs associated with unfavorable

weather and the resulting passenger complaints. Aviation is probably more sensitive to
the weather than any other mode of transportation. Although the costs associated with
the passenger complaints are not easily obtained, they are not insignificant considering
possible loss in future revenue.

As a result, obtaining accurate weather forecast is a serious task for the airlines

not only for efficiency but also for passenger safety. Many carriers depend on
government agencies such as the FAA, or pilot reports, for making weather forecasts.31

Economic Influence
End of high-tech boom’s influence on air cargo business. Last year was the

worst year for air cargo business since the 1970s, recording a 7% decline worldwide,
even lower than the 5% of sales loss during the Gulf War.32 Considering that 25% of
airline revenue comes from cargo,33 the financial damage to the airline industry was
significant.

Unlike passenger business, cargo business has not been substantially affected by

9/11. In fact, the real cause of the downturn in the air cargo business was the rapid
decline of the information technology (IT) industry.” IT spending decreased at the end
of 2000, and at the same time air cargo began to slide,” says Pascal Touin-Stratigeas,
fleet forecast analyst for Airbus.

Because of the high cost of air cargo to user companies (around 1% of world

trade by volume and 40% by volume), the companies are adopting more cost efficient
inventory strategies. For example, just-in-time manufacturing, of which emphasis is on
minimum inventory and global sourcing of parts and components, is slowly replaced
by other inventory systems which require less air shipments. Also, other companies are
increasing the dependence on inland transportation such as trucks and trains.34

However, there are signs of recovery of the cargo business as the economy gets

better in Asia, the biggest revenue generator to the air cargo business. Cargo business

29 “Industry Survey,” Standard & Poors, (2002), March 28, 2002.
30 “Air Traffic Management in the Future Air Navigation System,” ATA (1994).
31 “Industry Survey,” Standard & Poors, (2002): 19.
32 Peter Conway, “Eastern sunrise,” Airline Business 1 November 2002: 46.
33 Peter Conway, “Eastern sunrise,” Airline Business 1 November 2002: 46.
34 “Cargo,” Airline Business 1 November 2001: 56.

JetBlue: Flying for Success, 7

sales volume has gone up over 10% in Hong Kong, the most important Asian hub,
during the first quarter of 2002 and 24% in the second. Another notable factor is the rise
of China whose economy is expected to boom following its joining to the World Trade
Organization and the accelerating inward investment.35

Tightening corporate budget. Sales recovery of the airlines to the pre-1990 level

is not foreseeable. A decrease in business travel worsens the situation for the airlines. In
an effort to exercise better cost control, corporations have restructured their traveling
policies by downgrading corporate lodgings and limiting the use of first or business
class air travel. According to the Business Travel Coalition’s 2002 U.S. Business Travel
Survey, 60 percent of business travelers plan to further reduce expenditures on airline
services during 2002.36 As a result, the number of business trips was down by 20 percent
in 2001 compared to equivalent 2000 purchases according to C. Thomas Nulty,
president of Navigant International.

In addition, business travelers’ indifference to business trip expenses is rapidly

disappearing. The 2002 U.S. Business Travel Survey has found that 57 percent of all
purchased tickets were non-refundable, representing a 13 percent increase in the use of
discounted tickets in a two-year period.37 The higher mix of leisure ticket sales
decreases the yield, resulting in lower profit to the industry. Yield indicates the
passenger revenue generated per revenue passenger-miles (RPMs). This increasing
demand of low-fare tickets by business travelers is problematic to the airlines as the
business travel accounts for about 34% of the domestic airline revenues. 38

Many observers agree that the business traveler will continue to choose either

low-fare or nonrefundable tickets even after the economy improves. They support the
speculation with increasing complaints about unpleasant service in flight. Kevin
Mitchell, chairman of the Business Travel Coalition (BTC), says “Only 45% of frequent
business travelers perceive the value received from them as good or very good,
compared with 80% for low-fare airlines.”39

Fuel Price. High cost and price fluctuation of fuel are the industries main

concerns. Fuel, which makes up about 15% of operation costs,40 is the second largest
cost factor to the airlines. As the airline business has very small profit margins, between
two and five percent in the best of times, the profit erosion due to oil price fluctuations
strains the industry.41

35 Peter Conway, “Eastern sunrise,” Airline Business 1 November 2002: 46.
36 “Business Travel To Rise Over Next Six Months,” Airline Financial News 20.37 (2002).
37 “Business Travel To Rise Over Next Six Months,” Airline Financial News 20.37 (2002).
38 “Industry Survey,” Standard & Poors (2002): 3.
39 “Business Travel To Rise Over Next Six Months,” Airline Financial News 20.37 (2002).
40 Air Transport Association (2002).
41 http://www.airlines.org/public/news/display2.asp?nid=314, November 27, 2002.

JetBlue: Flying for Success, 8

Another growing concern is the unstable relationship between U.S. and Middle
East. The prospective war with Iraq has already pushed oil prices up by 46.9% to 86.83
cents per gallon from January to October, 2002.42

Nevertheless, the impact of current fuel price increases are expected to be less

than in the past due to airlines responding by switching to fuel-efficient jets, fuel
hedging and fuel surcharging.

To mitigate the oil shock, the airline companies began to replace old planes with

newer and more fuel-efficient jets. Also, they have shielded themselves by hedging fuel
contracts through the future market. For example, Southwest hedged 100% of jet-fuel
needs for the third and fourth quarters of 2001, locking the price of crude oil at $23. As
oil prices rose to $30 a barrel, Southwest saved $43.1 million in the third quarter,
reporting a 45% year-over-year net income growth in 2001.43
The airline industry is also known for compelling the passengers to shoulder their
financial burdens by increasing airfare. “Although sometimes rescinded, the fuel
surcharges have become relatively common in the airline industry.”44

Political Influence.
Airlines are subject to extensive regulatory and legal requirements, both

domestically and internationally. These regulations involve significant compliance
costs. In the last several years, the U.S. Congress has passed laws, and the Department
of Transportation (DOT) and the Federal Aviation Administration (FAA) have issued
regulations relating to the operation of airlines that have required significant
expenditures.

Security. Since 9/11, many security measures have been implemented to

prevent further terrorist attacks, and insure public safety. However, the new security
changes have negatively affected the airlines by increasing costs associated with
heightened security and decreasing sales.

The government took initiative by signing the Aviation and Transportation

Security Act on November 19, 2001, and got hold of the security responsibility at the
airport. Under the new Act, the airlines are required to be more involved in the security
responsibilities by taking some additional costs such as equipment, federal charges, and
airport charges.

These “mandated but un-reimbursed security costs,” have greatly impacted the

already financially struggling airline industry. For example, the newly imposed federal
security tax, $2.50 per flight segment, has cost airlines $265 million.45 In addition, the
Transportation Department has demanded the airliners to reinforce cockpit doors to
protect the aircraft from any intrusions. The airlines were also forced to give up some

42 Russell Grantham, “Airline fear a fuel spike,” Atlanta Journal 18 September 2002.
43 Melanie Trottman, “Airline commodity prices hedging,” Wall Street Journal 16 January 2001: B. 4.
44 http://www2.state.id.us/dfm/ief/2000/apr00/Article0002 , November 27, 2002.
45 http://www.bizjournals.com/pacific/stories/2002/10/07/daily32.html, November 27, 2002.

JetBlue: Flying for Success, 9

high-revenue seats in first-class to the marshal teams from the Federal Aviation
Administration. Federal air marshals are plain-clothed, armed law enforcement officers
who fly unannounced on domestic and international flights. Preventing the commercial
carriers from carrying U.S. mail has also significantly reduced the revenue of the airline
companies.46

In addition, the government has intensified the security procedures for

passengers and their luggage, resulting in the longer waiting time at the airport.47 Many
turned-off passengers have responded by traveling less or finding alternative modes of
transportation, such as car or train travel, in order to turn around the time-consuming
and unpleasant security measure. This negative consumer reaction has driven sales
revenue down in the airline industry. For example, the commuter affiliate of Alaska
Airlines has lost 10% of ticket sales on its busiest route, the Seattle-Portland, Ore.,
shuttle. Also, in the northeast U.S., flying has been gradually replaced by the Acela
Amtrak train in the New York-Washington-Boston shuttle market.48

Technological Influences
Internet. “The airline industry is capital-, labor-, and technology intensive.”49 To

survive fierce price wars, which leave only a 3-4 percent profit margin even in the best
time, the airline companies have aggressively employed cutting-edge technologies to
optimize business procedures, reduce costs and improve customer service. The Internet
has brought the most fundamental changes to the airlines.

Airlines first started using Internet for doing business50 in 1995, since then, to

pace with the increasing number of internet users, carriers have upgraded their home
page to be more interactive. Today, travelers can not only view the flight schedules and
their frequent-flyer accounts but can also make flight reservations. Jupiter Media Metrix
predicts that online purchasing of travel products will reach $29 billion in 2003 up from
$4 billion in 1999. Considering that the airline ticket sales represent 80% of all travel
purchases, the growth of the online market is significant to the airlines.51

The Internet’s biggest appeal to the airline industry is the reduction of

distribution cost. “The Internet provides the lowest-cost form of distribution for airlines
through both indirect and direct channels.”52 It has lowered the number of customer
service agents, eliminated travel agent commissions and removed paper tickets. For
example, the airlines paid about $3.0 billion for travel agent commission in 2001 down
from 5.2 billion in 1999. In addition, issuing e-tickets has reduced the cost for the
airlines, and improved the customer service. Now, passengers receive itinerary and
receipt by fax or e-mail, or travel without tickets. “According to United Airlines,

46 John Crawley, “Proposal would life some air restriction,” Reuters 30 September 2002.
47 “Industry Survey,” Standard & Poors (2002): 3.
48 Chris Woodyard, “Security hassles deter many frequent fliers,” USA Today.
49 “Industry Survey,” Standard & Poors (2002):11.
50 “Industry Survey,” Standard & Poors (2002):11.
51 http://www.bcg.com/publications/files/airline_finance , November 27, 2002.
52 http://www.bcg.com/publications/files/airline_finance , November 27, 2002.

JetBlue: Flying for Success, 10

electronic ticketing costs just 50 cents per ticket, versus $8 for paper tickets, because it
eliminates 14 accounting and processing procedure.” 53

However, trade-offs do exist for online booking. As “the rapid spread of Internet

technologies and the increasing customers’ access to information” has reduced the
differentiation between the business and leisure fares, business travelers are
increasingly choosing the leisure fares leaving the air ticket sales less profitable.54
Consequently, the average fares paid by business travelers fell by 2% in 2001 according
to American Express Co.

Also, the Internet has made consumers more sensitive to prices. Customers make

their purchasing decision heavily depending on the price incentive. It makes it hard for
airlines to build distinctive brand value, and develop customer loyalty.

INDUSTRY ANALYSIS
In 1903, the Wright brothers’ first successful flight in Kitty Hawk, North Carolina

marked the beginning of the aviation industry.

In 1927, Charles Lindbergh successfully completed a solo flight across the

Atlantic Ocean and created massive interest in flying with the general public. After this,
a variety of air transport holding companies began, including Aviation Corporation.
The air transport division of the company was called American Airways and later grew
to become American Airlines. In 1928, what was to become another leading air
transport company was created as a holding company by Boeing and its air transport
division, United Aircraft and Transportation Corporation. In 1931 the four air transport
divisions of United Aircraft became United Airlines. The Air Commerce Act, passed in
1926, allowed Federal regulation of air traffic rules.

The 1950s saw dramatic improvements in the capacity and comfort of

commercial flights. Planes were modernized, and jet service was introduced in 1959,
enabling even faster cross-country service. The 1980s were marked by the deregulation
of the industry, which resulted in the growth of smaller carriers and the mergers of
larger carriers. The 1990s saw a dramatic increase in the number of passengers,
including first time passengers, as prices were cut and the cities served by airlines
increased.55

The Product. Transportation is the product offered by the airline industry.

Airlines derive their revenues from transporting passengers, carrying mail and cargo,
and by selling in-flight services to passengers. Airlines also generate revenue through
selling frequent flier credits to hotels, car rentals, credit cards, and other organizations
that offer these credits as premiums or as a way to build good will.56

53 “Industry Survey,” Standard & Poors (2002): 11
54 Gabriele Piccoli, “Wyndham international: Fostering high-touch with high-tech,” Cornell University 10 October
2002: 3.
55 http://scriptorium.lib.duke.edu/adaccess/airline-history.html, November 20, 2002.
56 “Airlines, Industry Surveys,” Standard & Poors.

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The Department of Transportation (DOT) classifies airlines in the following

categories:
• Major – annual revenues exceeding $ 1 billion, 130 – 450 seats per aircraft,

average length of travel 1000 – 5000 miles.
• National – annual revenues between $ 100 million to $ 1 billion, 100 – 150 seats,

operating more of the short haul flights nationally.
• Regional – annual revenues less than $ 100 million. Comprised of Commuter

airlines and Start-up carriers.
• Charter – Unscheduled form of airline operation. Transport passengers on call.
• Two-tier operators – These carriers are typically major airlines that service long-

haul markets via a hub-and-spoke system, but which also operate a fully
independent, point to point air service, typically serving the discount excursion
market.

Channels of Distribution. The airline industry distributes tickets primarily

through travel agents (TA). TA’s generate 70% to 80% of total airline bookings. Airlines
encourage TA’s to steer customers their way by offering “commission overrides”. TA’s
use any of the major global distribution systems (GDS’s) to make reservations. These
include Sabre, Amadeus, Galileo and Worldspan57.

Airlines also book flights directly through company clerks and via the Internet.

Although airlines supply their flight and fare information to GDS operators, most
airlines reserve special rates for their own Internet websites. In June 2001, several larger
U.S. airlines launched Orbitz, a travel related web site. Orbitz competes directly with
TAs, since it allows customers to directly book their own flights on-line. Although
airlines are still charged $2.50-$3.00 per booking made by the GDS operators, Orbitz
enables airlines to eliminate TA commissions, of up to 5% per ticket, by distributing
more tickets directly via the Internet. Internet sites are very interactive and allow
passengers to check their flight status, book seats, and select specific seats on the
aircraft.

In 2001, commissions cost the leading airlines approximately $3 billion. Jupiter

Communications of New York, a research firm, estimates 11% of tickets to be sold via
the Internet in 2003 compared to 7% in 2001. Forester Research, a technology research
firm in Cambridge, MA, estimates on-line travel bookings to reach $29 billion by 2003
compared to $14.2 billion in 200158.

Industry Evolution. Exhibit I presents the different steps of the product life cycle

of the airlines industry. Phase 4 is separated as it represents the actual North American
Airline Industry compared to other international markets, such as Europe or Asia59. It
highlights the 4 different stages of the airline industry’s evolution. The industry is

57 “Airlines, Industry Surveys,” Standard & Poors, March 28, 2002.
58 “Airlines, Industry Surveys,” Standard & Poors, March 28, 2002.
59 http://act250.tc.faa.gov/jup/jupq_011002/special_guest/wangerman/presentation , November 20, 2002.

JetBlue: Flying for Success, 12

currently between phase 3 and phase 4. While the industry is just finishing
consolidating and building new hubs and alliances, the redefinition of service and cost
structure is being undertake. The new model is being developed by leading companies
as well as new entrants that redefine the way of doing business. Jetblue is definitely at
the edge of this strategy. The stability section of Phase 4 will only occur once there is
full recovery from 9/11.

Airline Industry Growth. “A year ago, domestic airfares were down 19.2 percent

from the previous year. In October 2002, they remained relatively unchanged, but well
below 2000 fares,” said Air Transport Association (ATA) Chief Economist David
Swierenga. “Although passenger volumes appear to have rebounded, nothing could be
further from the truth since domestic travel was down 20.1 percent in October 2001.”60

Exhibit II describes the evolution of the airline industry’s global revenue from

1978 to 2001. Despite the many challenges the airline industry has had to face, such as
the Gulf War and the economic recession, as previously mentioned, the worst downfall
the industry has ever known was a direct result of the events of 9/11, with a 35-40%
revenue drop.

Porter’s 5 Forces for the Airline Industry. Porter’s Five Forces model is used
below to evaluate the airline industry. The forces are competitive rivalry, bargaining
power of customers, bargaining power of suppliers, threat of new entrants, and threat
of substitute products. Understanding these forces helps in determining the intensity of
competition that exists within the airline industry and understanding the profitability
and attractiveness of the industry. The objective of the corporate strategy for any airline
is always to strengthen its position in the industry by deciding how to influence
particular characteristics of Porter’s Five Forces.61

Competitive Rivalry. The airline industry can be characterized as an imperfect

oligopoly, in which few carriers dominate in long-distance flights while several dozen
smaller carriers compete for short distance flights. The competition is fierce and returns
are generally low because of the cost of competition and buyers receiving benefits due
to lower prices. Currently, airlines are trying to differentiate themselves through their
frequent flyer programs. Frequent flyer programs are aimed to sway members to
remain loyal to one airline despite the fact that other airlines might offer lower prices.
Finding additional ways of differentiating their product remains critical to individual
airline’s long-term successes.

To better manage the competitive rivalry, airlines began creating alliances with

each other. These alliances enable the airline in the same alliance to share customer
information, schedules and distribution systems. Exhibit III highlights the four major
alliances and their members. It is important to note that although alliances reduce

60 http://www.airlines.org/public/news/display2.asp?nid=6151, November 20, 2002.
61 http://www.fol.com/research/2000/features000309.htm, November 20, 2002.

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competitive rivalry between individual airlines, they do not deter rivalry between the
allied groups themselves.

Bargaining Power of Customers. Bargaining power of airline customers tends

to be low because of several factors including, low concentration of buyers, the large
number of buyers, no threat of any backward integration exists, little or no bargaining
power for buyers on long distance flights. Air travel represents the only viable option in
regards to long flights such as those between the U.S. and Europe. The quality of the
service provided will possibly be only a small consideration to the buyer as this is only
part of the consideration of the buyer and results in an even lower amount of
bargaining power to the buyer

Bargaining Power of Suppliers. Suppliers are concentrated in the airline

industry, with most airlines being supplied by Boeing and/or Airbus. Because of this
concentration it is difficult for airlines to exhibit much, if any, leverage over the supplier
in an attempt to obtain lower prices. This is not to say that airlines have no choice. In
fact, airlines may not believe that the products offered by alternative suppliers are
differentiated and, therefore, are not obligated to purchase from just one supplier.

Airlines operate in an energy intensive industry. Prices and the availability of
petroleum products are subject to political, economic and market factors outside the
airline’s control. The moderate degree of power over suppliers further diminishes the
ability to earn high profits and potentially reduces smaller airlines.

Threat of New Entrants. The threat of new entrants presents the possibility that

newer firms will enter the industry, increasing competition while diminishing existing
airlines’ returns. The airline industry has seen the entrance and growth of low fare
competitors (Air Tran Airways Inc., Southwest Airlines and Jet Blue). This entrance is
despite the high barriers to entry including the difficulties associated with establishing a
strong brand identity, obtaining a large amount of starting capital due to a high initial
investment requirement, and obtaining the proper distribution channels (hubs) typical
of the airline industry.

Once an airline has established a hub at an airport, several structural and

strategic factors combine to present high entry barriers to any other airlines that may try
and enter spoke routes emanating from that hub. By providing more departures to
more destinations, the hub carrier can attract a disproportionate share of the hub
airport’s passengers. This happens for several reasons, including the preference of many
travelers to use the carrier with the most flights in a city (so that the passenger can
change departure times if travel plans change), marketing programs (such as frequent
flyer programs) that create loyalty incentives for consumers to concentrate their travel
on the dominant airline in their home city, and travel agent commission practices that
create incentives for travel agents to encourage their customers to use the hub carrier. In
addition, a hub carrier often enters into contracts with local businesses that provide
incentives for the businesses to concentrate their travel on the hub carrier. All of these
factors serve to discourage entry into a hub carrier’s spoke routes, especially by other
carriers with similar cost structures.

JetBlue: Flying for Success, 14

Threat of Substitute Products. There are several substitutes to air travel (e.g.

automobiles and trains), but over long distances and flying between continents, there
are no real substitutes. The decision to use automobiles or trains is influenced by time,
money, personal preference and convenience, but air travel offers a good price/value
relationship and offers considerable speed advantages over other forms of travel.62

Costs.
The greatest costs incurred by an airline are labor, fuel, and fleet costs. Fuel cost

has decreased since 1982, but as mentioned earlier, the cost for fuel is unpredictable and
is based on a variety of factors both economic and political. 63

Deregulation. Before 1978, the airline industry operated under government

regulations, which prevented airlines from price collusion. Deregulation was
introduced in 1978, and changed the U.S. airline industry dramatically. The end of
federal regulations forced airlines to adopt a hub-and-spoke system of airports. Before
this direct route system was permitted, airlines were forced to fly only between small
markets as stipulated by the government.64 Although airlines were deregulated for the
purpose of increasing airline revenues and creating more competition, many
bankruptcies, large losses, and mergers, were caused by over-expansion and a fight for
control of hub-airports.65

The goal of deregulation as to introduce competition into the marketplace so that

the industry could better meet the customers’ demands with efficiency, lower price and
service.

For a time, regulation did benefit the airline industry. It provided the industry

with groundwork for future growth through the 1970s by guiding it to safe and orderly
expansion, preventing competitive collusion, and ensuring high-quality service.
However, deregulation was necessary due to the slowness of the existing regulatory
system and the rapid pace of industry growth.66

One of the remarkable achievements of deregulation was the increased efficiency

of the industry. The deregulation of prices enabled the airlines to provide discounted
tickets, and fill seats which would otherwise be empty. Since the deregulation, the
number of airline passengers has more than doubled, and the seat occupancy has
grown significantly.67

62 http://www.fol.com/research/2000/features000309.htm, November 20th, 2002.
63 http://www.airlines.org/public/industry/bin/Econ101 , November 16th 2002.
64 http://www.howstuffworks.com/airline3.htm, 3 December 2002.
65 “Prospectus: JetBlue Airways Common Stock,” 11 April 2002.
66 Daniel Yergin, et al., “Fettered Flight: Globalization and the airline industry,” Global Decision Group 10 Oct. 2000:

3.
67 Carol B. Hallett, “Remarks on Global Competition in the Airline Industry,” Air Transport Association 30 March

1998.

JetBlue: Flying for Success, 15

In addition, the ignited competition compelled the airlines to look for a better use
of existing resources. Owing to hub-and-spoke system, the airlines could allocate
different equipment where and how they wanted; for example, big jets were placed for
long-haul routes and small jet propellers between the hub and spoke airports. 68

Deregulation is often thought of as the main cause of current air traffic

congestion and airport delays. It is also blamed for the deterioration of passenger
service. The congestion and delay can be attributed to factors such as the pricing policy
of local airports and air traffic control systems, which do not reflect the use and the
value of expanding airport and airway capacity. Most airports charge landing fees
primarily based on the weight of the aircraft or apply “the first-come, first-serve pricing
policy”.69 This pricing policy discourages low value users such as small carriers or
private aircrafts “to shift some of their activities to less congested airports and off-peak
travel times.”70 It is also suggested that highly congested airports might properly add
surcharges for landings at peak hours. 71

The increased price competition among the airliners has resulted in the

degradation of the service. Excessive price driven strategies after the deregulation have
compelled the airliners to give up some of the frills such as extra leg room and some
amenities in order to minimize the loss incurred from the decreased airfare.

The Global Airline Industry. The airline industry can consider being global

since many carriers operate internationally. The international carriers are affected by
constraints which affect no other industry, and that often impede the formation of an
international route system.

The Convention on International Civil Aviation recognizes a nation’s sovereignty

over its airspace and its right to stop foreign aircraft from entering that airspace.
Internationally, scheduled commercial air traffic is made possible by Bilateral
Agreements in which governments typically exchange air rights for the benefit of their
respective carriers. There are three types of ‘traffic’ rights or ‘Freedoms’ which allow
airlines to earn revenue internationally:

♦ Third Freedom: The right to carry revenue passengers, cargo or mail (traffic)

from your country to a point in the second country.
♦ Fourth Freedom: The right to carry passengers from a point in the second

country to your country.
♦ Fifth Freedom: The right to carry passengers between a point in a second

country and a point in a third country.

68 http://www.econlib.org/library/Enc/AirlineDeregulation.html, November 27, 2002.
69 John R. .Meyer and Thomas R. Menzis, “Airline Deregulation: Time to Complete the Job,” Issues in science and

technology online Winter 1999.
70 John R. .Meyer and Thomas R. Menzis, “Airline Deregulation: Time to Complete the Job,” Issues in science and

technology online Winter 1999.
71 http://www.econlib.org/library/Enc/AirlineDeregulation.html, November 27, 2002.

JetBlue: Flying for Success, 16

♦ Sixth Freedom: The right to carry passengers from one country to another as
long as a stop over is made in the airlines home country.

The exchange of rights is done on a reciprocal basis. Therefore Third and Fourth

Freedom rights are easier to negotiate than Fifth Freedom, which clearly requires the
consent of the third country.72

International Airlines. Airlines define global ‘presence’ in many ways, from

having a new aircraft in a foreign country, to having the airline’s ‘code’ appearing in
GDS for increased bookings on a global level. Presence is highly sought after by airlines.
Any arrangement that gives an airline a ‘presence’ in a foreign country, is preferable to
one which does not. This want of ‘presence’, is the driving force behind most of the co-
operative agreements that exist between international airlines today.

Future of the Global Airline Industry.
Many analysts believe that the ‘global’ airline of tomorrow will be a

multinational mega- carrier. Ideally such a firm would consist of airlines based in
different continents e.g. Europe, North America, Asia, etc. Continents that will provide
strong feed to, and otherwise support a global route system. These multi-mega airlines
would be much more than marketing alliances.

Virtually all analysts agree that such a carrier would have an enormous and

sustainable competitive advantage in today’s world. Presumably, its reduced operating
costs and lower tax payments would result in both higher shareholder returns and
lower air fares for consumers. Although the numerous benefits of such an arrangement
are obvious, this type of ‘future’ will come very slowly, if it comes at all.

At present, its evolution is prevented by prohibitions against foreign control of

international airlines and concerns about what types of traffic rights such a carrier
might inherit from its predecessors. These problems will remain as there are too many
parties interested in the status quo.

Many countries do not look at airlines as commercial entities, but rather as an

extension of their foreign policy, proudly flying the ‘flag’ in many exotic destinations.
Airlines are looked at as an essential part of the national transportation infrastructure
and resist foreign control for reasons of national interest. Both the United States and
Canada fall into this category.

It is only in very recent years that certain countries have truly put shares of their

national airlines “on the market.” Belgium did this in part by allowing British Airways
and KLM to each take a 20% share in Sabena World Airlines, Argentina has essentially
sold its national airline to the Spanish national airline and Australia, New Zealand and
Jamaica are displaying a new openness on the question of international airlines.

72 http://www.airlines.org. November 21, 2002.

JetBlue: Flying for Success, 17

Some countries are adopting new attitudes, but the countries which serve as

major transportation ‘hubs’ of Europe, North America and Asia are very slow to follow
suit. Until they do, the truly ‘global’ airline can not exist.73

ORGANIZATIONAL ANALYSIS
As a publicly traded company JetBlue’s ultimate goal is stockholder and

stakeholder satisfaction. JetBlue offers high quality air transportation at attractive prices
to its customers.

Vision and Strategic Direction. With a total fleet of 132 airplanes and contracts

for the purchase of additional 100 aircrafts74, JetBlue wants to establish itself as the
leading U.S. low-fare carrier, leaving competitors like Continental, AmericaWest and
Southwest behind. JetBlue plans for steady growth of destinations and services which
will enable it to keep customers as frequent fliers who can rely on JetBlue for their
national travel plans. In addition to Costa Rica, JetBlue is currently developing an
international set of destinations.

Since JetBlue’s first official flight on February 11, 2000, its primary goal has been

to grow enough to continue being successful, but to remain small enough in order to
preserve its core values. Because the company is so young, there has been little change
to its original strategic direction.

JetBlue Defined. “We are a low-fare, low-cost passenger airline that provides

high-quality customer service primarily on point-to-point routes. We offer our
customers a differentiated product, with new aircraft, low fares, leather seats, free
LiveTV (a direct 24-channel satellite TV service) at every seat, pre-assigned seating, and
reliable performance.” 75

Principal Internal Stakeholders.
Key Managers and their background.76

♦ David Neeleman, 41 years old, $335K Salary77, CEO and Director since
1998

Prior to founding JetBlue, Neeleman was co-founder of WestJet (1996-1998),
served as CEO of reservation systems company Open Skies (1995-1998), Vice President
and from 1988 President of Morris Air (1984-1994). He graduated from the University of
Utah.

73 http://www.airlines.org, November 21, 2002.
74 http://investor.jetblue.com, November 4, 2002.
75 http://investor.jetblue.com, November 4, 2002.
76 http://www.jetblue.com, November 4, 2002.
77 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.

JetBlue: Flying for Success, 18

♦ David Barger, 43 years old, $335K Salary78, President, COO and Director
since 1998. Barger worked for Continental Airlines, from 1992 until 1998,
and for New York Air, from 1982 until 1988. He graduated from the
University of Michigan.

♦ Thomas Kelly, 49 years old, $335K Salary79, Executive Vice President,
General Counsel and Secretary since 1998. Kelly served, from 1995 until
1998, as Executive Vice President and member of the board of directors of
Open Skies. From 1990 until 1994, he worked for Morris Air in the same
position. He attended Harvard Law School.

♦ John Owen, 46 years old, $335K Salary,80 Executive Vice President and
Chief Financial Officer

Owen served, from 1984 until 1998, as Treasurer for Southwest Airlines and
holds a MBA from the University of Pennsylvania.

Managers’ Strengths and Weaknesses. The executive management team of

JetBlue consists of four major players who have been working consistently together
since August 1998. Only CFO Owen joined them 5 months later. The fact that they have
been working together for four years indicates a solid base for consistent performance
and decision-making. Becoming the leading low-fare carrier in the country is driving
their actions. It is interesting to note how the executives’ paths have crossed throughout
their careers. Neeleman and Kelly, for example, previously worked together at Morris
Air and Open Skies81. All four executives have extensive knowledge of the airline
industry due to their prior work experience at various airlines such as Southwest,
Continental or Morris Air.

The balance in JetBlue’s strategic leadership may be threatened by the attrition of

any of these top executives. If one of the executives were to leave and JetBlue were to
face a serious challenge, the management team may not be able to successfully meet
that challenge. Though, currently, most of their strategies, plans and goals have proven
to be successful. This is evident in JetBlue’s successful advertising and marketing
campaign which has helped to enhance JetBlue’s strong brand image.82

Ownership of JetBlue.
JetBlue is publicly traded on the U.S. stock market (Nasdaq National Market

Symbol “jblu”83). On November 6, 2002, 5.866 million shares of common stock were
offered where as 40.94 million stocks were estimated to be outstanding84. As of
November 6, 2002, share price was $ 41, which would value JetBlue as of November 6,
2002 at $1,919 million. Both the executive committee members and board of directors

78 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
79 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
80 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
81 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
82 http://www.jetblue.com, November 4, 2002.
83 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
84 http://investor.jetblue.com, November 4, 2002.

JetBlue: Flying for Success, 19

are the principal shareholders. Refer to the Board of Directors section for a brief
discussion on a possible agency problem.

JetBlue has several main owners, some of them represented on the Board of

Directors. Sometime after JetBlue’s IPO in April 2002, the executive committee
communicated that no dividend will be paid and that JetBlue’s profits would be
reinvested in the growth of JetBlue85. This decision was met with no criticisms which
can be indicative of the owners fully supporting this growth strategy chosen by
management.

Board of Directors.
JetBlue’s Board of Directors has 10 members86:

• Michael Lazarus, 46 years old, Chairman of the Board, holding 27,230 shares87
• David Checketts
• Dr. Kim Clark holding 1,000 shares88
• Neal Moszkowski, also Board member at Integra Life Sciences and MediaLogic89
• Thomas Patterson, holding 27,230 shares90
• Joel Petersen, holding 189,592 shares91
• Frank Sica
• Ann Rhoades, formerly Vice President of People for Southwest Airlines92
• David Neeleman, CEO of JetBlue
• David Barger, President of JetBlue

The composition of the Board of Directors, including CEO and President, creates

a potential for conflicts of interest. Specifically, an “agency problem” may exist, since
JetBlue’s top executives, who also serve on the Board, may be influenced by their
personal interests for financial gains.

Operating Characteristics
Size of Sales. JetBlue was able to post operating revenue in 2001 of $ 320.4

million after $104.6 in 2000. This means an increase of 306%. JetBlue posted a net income
of $38.5 million in 2001 after a net loss of $ 21.3 million in 2000. Exhibit IV illustrates
some interesting developments within JetBlue including significant increases in the
number of passengers, seat availability, and departures—all factors contributing to
increased sales. Refer to Financial Analysis section for more detail.

85 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
86 http://www.jetblue.com, November 20, 2002.
87 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
88 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
89 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
90 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
91 http://biz.yahoo.com/t/75/4584.html, November 4, 2002.
92 http://www.humanissues.org/conference/conference_2002.html, November 4, 2002.

JetBlue: Flying for Success, 20

Size of Assets
As of December 31, 2001, JetBlue owned 9 Airbus 320 and leased 21 Airbus 32093.

At that time it was serving 18 cities throughout the USA and San Juan, Costa Rica.

JetBlue’s 2001 balance sheet shows Total Assets of $673.8 million compared to

$344.1 million in 2000. Exhibit V illustrates JetBlue’s development from March 31 to
December 31, 2000 with regard to cities served, number of employees and operated
aircrafts.

Hubs and Locations
The John F. Kennedy Airport in New York is JetBlue’s main hub94. Long Beach,

California serves as the official West coast hub. Currently JetBlue has just one
international destination, San Juan, Costa Rica. There are no further international
expansion plans published at this time95.

Marketing Program
Reaching the Customer. Within two years of operation, JetBlue was able to

establish a widely recognized brand name. As its brand name and logo indicate, JetBlue
is focusing on the color blue, including web page design, airplanes, seats etc. As
previously mentioned, JetBlue also established the customer loyalty program called
“TrueBlue”. The reservation hotline telephone number 1 800 JETBLUE as well as the
web page www.jetblue.com are easy memorable. JetBlue also offers a $5 discount for all
on-line bookings. This has spurred an increase in the percentage of web-based bookings
from 28.7% in 2000 to over 44% for 200196. The web page www.jetblue.com and
reservation hotline provide combined 92.6% of their bookings97.

According to JetBlue, its marketing strategy is:

“to attract new customers by widely communicating [its] value
proposition that low fares and quality air travel need not be mutually
exclusive. [JetBlue] market[s] [its] services through advertising and promotions
in newspapers, magazines, television and radio and through targeted public
relations and promotional efforts.” [JetBlue] also relied on word-of-mouth to
promote [its] brand.

[It] generally run[s] special promotions in coordination with the
inauguration of service into new markets. Starting approximately five weeks
before the launch of a new route, [JetBlue] undertake[s] a major advertising
campaign in the target market and local media attention frequently focuses on the
introduction of [its] low fares.”98

Employee Training and Benefits.

93 http://investor.jetblue.com, November 4, 2002.
94 http://www.jetblue.com, November 4, 2002.
95 http://www.jetblue.com, November 4, 2002.
96 http://investor.jetblue.com, November 4, 2002.
97 http://investor.jetblue.com, November 4, 2002.
98 http://www.jetblue.com, November 20, 2002.

JetBlue: Flying for Success, 21

JetBlue currently employs over 2,300 full and part-time employees99. JetBlue
established “JetBlue University” as its training facility for all employees. There are two
branches to the University, the pilot training facility located in Miami, Florida, and the
flight attendant training facility located in Kew Gardens, New York.100

Reservation agents are trained for four weeks in Salt Lake City, Utah, where the

reservation center is based.101

All newly hired pilots are required to receive an Airbus A320 type rating at the

Miami training facility, even if they have already done so in the past.102 In addition, all
pilots are trained on Microsoft SharePoint Portal Server, which serves as a high-tech
replacement for standard paper manuals once used by pilots to record required flight
information.103

By law, all major airline flight attendants must be trained to ensure the safety of

its passengers.104 All JetBlue flight attendants are required to have a high school
diploma and at least two years of “face-to-face” customer service experience. Once
hired, after passing three interview sessions, all flight attendants must complete a 21-
day training session, 10 days at the Miami Airbus training facility and 11 days in New
York.105

In addition to JetBlue’s excellent training, JetBlue also provides its employees

with outstanding benefits making employment with the airline extremely attractive.
JetBlue offers its pilots overtime pay, pay and a half, for any hours worked over the
standard 70 hours per month. Although their base pay is significantly lower than the
industry average, the overtime pay, rare for the airline industry, allows for a first-year
captain to be “doing as well as the rest of the industry.”106 In addition to competitive
wages, JetBlue also offers full benefits to its full-time employees, including medical,
dental, vision, and disability, and offers a 401k, stock options, and profit sharing.107

JetBlue also offers job flexibility to both reservation agents and flight attendants.

500 of JetBlue’s 600 reservation agents work from home, and most of the agents work a
shortened 25 hour workweek. According to Julie Strickland, JetBlue contact center
analyst, “We are a corporation, but we don’t want to act as corporations traditionally
do. If someone wants to work only 20 hours, they’ll be more productive than if we
were pushing them to work 50 hours”108 JetBlue is using a workforce-management
software to aid in its efforts of making this type of job flexibility work for both the

99 http://investor.jetblue.com, November 4, 2002.
100 http://www.jetblue.com/workhere, November 14, 2002.
101 http://www.hratworkco.com/July2002.htm, November 11, 2002.
102 http://www.aviationcareer.net/spotlight/cs_01252001_.cfm, November 11, 2002.
103 http://www.microsoft.com/servers/evaluation/casestudies/JetBlue.asp, November 13, 2002.
104 http://www.bls.gov/oco/ocos171.htm, November 14, 2002.
105 http://media.corporate-ir.net/media_files/NSD/jblu/reports/2001prospectus , November 13, 2002.
106 http://www.jetblue.com/workhere, November 14, 2002.
107 http://www.jetblue.com/workhere, November 14, 2002.
108 http://www.informationweek.com/story/IWK20020405S004, November 12, 2002.

JetBlue: Flying for Success, 22

agents and the organization. This software helps the organization “manage and
communicate with agents by phone, Web, E-mail, chat, handhelds, and fax.”109 It also
allows agents to access all other agents work schedules so that they can swap shifts at
their own discretion. 110

Flight attendants are also given a substantial amount of job flexibility through

the various job levels created by JetBlue. In addition to the traditional flight attendant,
JetBlue offers special programs for college students and friends or family members. The
JetBlue Inflight Crew program offers a college student an opportunity to work as a
flight attendant for one year; this position is mostly offered to students who have
chosen to take a year off from school. The job-sharing program is offered to two flight
attendants, usually two friends or family members, who desire to share a work
schedule. The candidates interview together and, upon hiring, are given a full work
schedule; it is up to them to decide who works which shift.111

Significant Relationships.
JetBlue maintains special relationships with some of its suppliers, such as Airbus,

and governmental agencies, such as the Federal Aviation Authority (FAA) and the
Department of Transportation (DOT). Adhering to its cost savings strategy, JetBlue
operates an aircraft fleet consisting of only one type of plane with one type of engine.
The Airbus A320 was selected because of its “reliability, advanced technology and wide
cabin space and the IAE International Aero Engines V2527-A5 engine for its reliability
and fuel efficiency.”112 JetBlue relies on Airbus as its sole supplier of new aircraft and
IAE for its aircraft engines. If, for any reason, either company were to cease its supply
services, JetBlue would be forced to look to a new supplier that may not offer a product
with the same type of advantages.

As for governmental agencies, JetBlue, like all other airlines, is subject to

regulatory and legal requirements, imposed by the FAA and the DOT, which usually
have high costs associated with attaining full regulation compliance. Such laws include
the Aviation Security Act, November 19, 2001, requiring airlines to implement specific
security measures, which have proven to be quite costly due to increased staffing and
flight delays. New laws and regulations can be imposed on JetBlue at any point in time
and can “significantly increase the cost of airline operations or reduce the demand for
air travel”.113

JetBlue Culture.
JetBlue has certainly established a culture of its own which sets it apart from the

other major airlines. Stuart Klaskin of the aviation-consulting firm, Klaskin, Kushner &
Co. boasts “[JetBlue is] a hip and cool place to work. They’re the first airline designed

109 http://www.informationweek.com/story/IWK20020405S004, November 12, 2002.
110 http://www.informationweek.com/story/IWK20020405S004, November 12, 2002.
111 http://www.aviationcareer.net/spotlight/cs_01252001_.cfm, November 13, 2002.
112 http://media.corporate-ir.net/media_files/NSD/jblu/reports/2001prospectus , November 8, 2002.
113 http://media.corporate-ir.net/media_files/NSD/jblu/reports/2001prospectus , November 8, 2002.

JetBlue: Flying for Success, 23

for the dot-com generation.”114 The corporate culture introduced by CEO, David
Neeleman, revolves around five core principles—safety, caring, integrity, fun, and
passion. These core values are shared with prospective employees during interview
rounds, and it is expected that all employees share and adhere to these values during
their employment with JetBlue.115 As an employer, the company itself adheres to these
values, as well. This is exemplified by JetBlue’s emphasis on its employees’ work-life
balance—providing reservation agents the opportunity to work from home and flight
attendants the option to share work schedules with a friend or family member. (See
“Employee Training and Benefits” section for more details)

All employees, regardless of status, are referred to as “crewmembers”. In

addition, all newly hired employees must complete a two-day orientation, together,
which reinforces the idea that each individual represents “a part of the whole”.
Crewmembers are also given the opportunity to meet with top executives, including the
CEO, on a monthly basis to discuss any pertinent issues or problems they are facing.116
The “open line of communication” philosophy is furthered by the TLC (tender loving
care) program which involves top executives reviewing the company’s financial
statements on a regular basis with crewmembers based out of cities other than New
York, NY.117

Financial Data.
Appendix I and II include JetBlue’s most recent income statement and balance

sheet, respectively. JetBlue made their initial public offering (IPO) on April 12, 2002. As
such, the financial information only includes the first three quarters of 2002, and
selective income related information obtained from the company’s prospectus for 2001.
By comparing the total revenue and net income from operations balances (highlighted
in light blue) as of December 31, 2001 to total revenue and net income from operations
at September 30, 2002, one can see that JetBlue is doing remarkably well financially.
That is, total revenue and net income for the first three quarters in 2002 have already
exceeded revenues and income for the entire year of 2001 by approximately 40% and
3%, respectively. Financial analysts are confident that JetBlue’s financial success in the
immediate future will continue.118

Sources of Competitive Advantage.
JetBlue’s sources of competitive advantage are evident within the company itself

and are extended outward to its customers. They begin with the innovative work
culture created by JetBlue, making its employees feel as if they are part of a big family.
As mentioned earlier, top executives maintain open lines of communication with all
“crewmembers” by conducting monthly face-to-face meetings in which employees can
voice their concerns. In addition, JetBlue prides itself on the work schedule flexibility
made available to its “crewmembers”. CEO David Neeleman contends that JetBlue

114 http://www.workindex.com/editorial/benefit/ben0208-03.asp, November 14, 2002.
115 http://www.aviationcareer.net/features/fa_06202001_01.cfm, November 13, 2002.
116 http://www.aviationnow.com/content/publication/awst/2002610/avi_stor.htm, November 13, 2002.
117 http://www.workindex.com/editorial/benefit/ben0208-03.asp, November 13, 2002.
118 http://biz.yahoo.com/p/j/jblu.html, November 19, 2002.

JetBlue: Flying for Success, 24

gives a lot to its employees in terms of benefits, compensation, etc. but they expect their
“employees to go above and beyond the call of duty when it comes to serving [its]
customers.”119

Furthermore, JetBlue’s information technology is superior to that of its

competitors. They created the paperless cockpit, the first in its industry, which allows
pilots to access all flight information and keep detailed flight records, electronically.
The computerized cockpit puts less reliance on airline dispatchers, allowing for on-time
arrivals and departures.

JetBlue has also implemented a queue program which immediately lets

passengers know, during check-in, which agent is available. This simple program has
cut down average check-in times to less than one minute. Recently, JetBlue has also
installed, in all of its aircraft, security cameras in the passenger cabin with monitors in
the cockpit, as a security measure, so that flight crews are aware of what is happening
in the cabin at all times. All of these technological innovations serve to make JetBlue’s
service more efficient and secure and is valued highly by customers.120

JetBlue currently operates the youngest fleet in the industry. This is in line with
the newly created company’s strategy to provide the best service available, including
state of the art equipment and new planes.121 This is also a source of competitive
advantage because, with a younger fleet, JetBlue is likely to experience less delays due
to mechanical problems, keeping their customers happy.

Lastly, JetBlue’s low fares and free in-flight amenities are also a source of

competitive advantage. It offers flights to major city destinations at much lower fares,
compared to their competitors. It is able to do so because of its non-union labor, a small
airplane fleet, and operations out of secondary airports such as Rochester, NY or Long
Beach, CA.122 In addition, each JetBlue airplane is equipped with all leather seats and
free DirecTV programming with 24 channels at every seat, while most competitors
usually charge passengers approximately $4.00 for the luxury of watching an in-flight
movie from a few rows back. JetBlue also offers its customers additional discounts for
booking their flight on-line123, and offers $50 vouchers or vouchers equal to the ticket
price to each passenger whose flight has been delayed for two or four hours,
respectively.124

Threat from the competition is inevitable. Larger airlines have already begun to

lower their fares. It is only a matter of time before the major competitors begin to make

119 http://www.aviationcareer.net/features/fa_06202001_01.cfm November 13, 2002.
120 http://www.cio.com/archive/070102/jetblue.html, November 19, 2002.
121 * The aircraft in this survey are limited to the large jet transports flown by that particular airline. Smaller aircraft
flown by the carrier, and aircraft belonging to subsidiary airlines of that carrier, are excluded. The fleet sizes reflect
an estimate of the number of aircraft in service at the time of this survey.
http://www.airsafe.com/events/airlines/fleetage.htm, November 19th 2002.
122 http://www.time.com/time/columnist/donnelly/article/0,9565,167074,00.html, November 19, 2002.
123 http://www.jetblue.com, November 18, 2002.
124 http://www.aviationnow.com/content/publication/awst/2002610/avi_stor.htm, November 13, 2002.

JetBlue: Flying for Success, 25

even more improvements to their business in attempts to increase their market share, in
direct response to JetBlue’s successes. They may begin by improving their customer
service and by offering customers similar in-flight perks, in addition to making
scheduling and frequent-flier mile program improvements.125 However, JetBlue is
anticipating these future challenges and plans to meet them by implementing new
strategies to insure that “the JetBlue ‘experience’ isn’t diluted in any way”, so that
customers keep coming back.126

CONCLUSION
JetBlue is a young and thriving low-fare airline in an industry which has been

struggling due to the economic downturn and loss in consumer confidence. It has
succeeded in differentiating itself from the competition by offering premium service at a
discounted cost. Since its inception, JetBlue has been able to consistently increase its
customer base and revenues by offering its services to more destinations.

In response to JetBlue’s successes, competing major airlines might adopt similar

low-cost strategies which could threaten JetBlue’s market share. These major airlines
are more well-established in the industry offering more flexible flight schedules and
direct flights to major cities. JetBlue could respond to this type of threat by seizing a
growth opportunity to expand its customer-focused services in more domestic locations
and neighboring countries, such as Canada and Mexico.

As JetBlue continues to make headway in the airline industry, CEO David

Neeleman contends that he has no desire to lead a major airline, acquire another
company, or be acquired. Yet, JetBlue must realize that they are not without risk in the
post 9/11 environment, where major airlines are intensely focused on implementing
low cost strategies. The level of competition by major airlines is also not easily
predictable for the foreseeable future.

“Jet Blue has been put together like no airline has ever been put

together before. It has the most capital. It has the best product. So now
the question is, can you continue it? And that’s what worries me. That’s
what keeps me up at night. How can we continue what we’ve started?”

—JetBlue CEO, David Neeleman, October 16, 2002,
Interview with CBS 60 Minutes II

125 http://www.aviationnow.com/content/publication/awst/2002610/avi_stor.htm, November 13, 2002.
126 http://www.aviationnow.com/content/publication/awst/2002610/avi_stor.htm, November 13, 2002

JetBlue: Flying for Success, 26

Exhibit I
Airline Industry Evolution

P h a se 1 : P h a s e 2 : P h a s e 3 : P h a s e 4

E a r ly D e r e g u la ti o n E v o lu t io n S ta b iliz a t io n N e w M o d e l

C a p a c ity G r o w
L a r g e s c a le c o s t

re d u c tio n
In d u str y

C o n s o lid a tio n
S ta b ilit y

u n d e rm in e d

N e w E n tr a n t s
R e s tru c t u re in o f

o p e r a tio n s f o r
p e r f o rm a n c e

S tr u c t u r a lly s e c u r e
p o si tio n s e m e rg e

( f o rt re s s h u b s )

N e w s e rv ic e
u n b u n d in g (b y

c u s t o m e r
s e g m e n t)

U n b u n d lin g o f
S e rv ic e

S e r v ic e g ro w s i n
im p o rta n c e

M a rk e t d is c ip lin e
F u rth e r c o s t

st ru c tu re
sp e c i a liz a tio n

P ric e s d ro p f a s te r
th a n c o s ts

W e a k p la y e r s e x it
B ro a d e n in g

c u st o m e r
e x p e rie n c e

N e tw o rk
f ra g m e n t a ti o n

F o c u s e d
C o m p e tit o rs g r o w

E l e c t ro n ic m e d ia
re d e f i n e s
p a ra d ig m

h t tp :/ /a c t2 5 0 . tc . f a a . g o v /ju p /ju p q _ 0 1 1 0 0 2 /s p e c ia l_ g u e s t /w a n g e rm a n /p r e se n t a tio n .p d f
F e d e ra l A v ia tio n A d m in ist ra tio n , E n g in e e r in g & In t e g r a ti o n S e r v i c e s

A irli n e In d u s tr y E v o lu tio n

JetBlue: Flying for Success, 27

Exhibit ll
Seasonally Adjusted Quarterly Industry Revenue

JetBlue: Flying for Success, 28

Exhibit lII
The Four Major Airline Alliances

SkyTeam
AeroMexico
AirFrance
Delta
Korean Air

Star Alliance
Air Canada
Air New Zealand
All Nippon Airways
Ansett Australia
Austrian Airlines
British Midland, Lauda Air,
Lufthansa
Mexicana Airlines, SAS
Singapore Airlines
Thai Airlines, Tyrolean
Airways, United, Varig

Qualiflyer
Swissair, Sabena, TAP
Turkish Airlines, AOM
Crossair, Air Littoral
Air Europe, LOT PGA
Volare

OneWorld
Aer Lingus
American Airlines
British Airways
Cathay Pacific
Finnair
Iberia
LanChile
Qantas

JetBlue: Flying for Success, 29

Exhibit IV
JetBlue, Year Ended December 31, 2000 2001
Operating Statistics (unaudited):
Revenue passengers ………………………… 1,144,421 3,116,817
Revenue passenger miles (000) ………………….. 1,004,496 3,281,835
Available seat miles (000) ………………………….. 1,371,836 4,208,267
Load factor 73.2% 78.0%
Breakeven load factor 90.6% 73.7%
Aircraft utilization (hours per day) ……………… 12.0 12.6
Average fare ……………………………………………. $88.84 $99.62
Yield per passenger mile (cents) 10.12 9.46
Passenger revenue per available seat mile (cents) … 7.41 7.38
Departures …………………………………………….. 10,265 26,334
Average stage length (miles) ………………………….. 825 986
Average number of operating aircraft during period ….. 5.8 14.7
Full-time equivalent employees at period end 1,028 2,116
Average fuel cost per gallon (cents) …………….. 96.15 75.63
Fuel gallons consumed (000) 18,340 55,095
Percent of sales through JetBlue.com during period … 28.7% 44.1%

Source: JetBlue

JetBlue: Flying for Success, 30

Exhibit V
JetBlue’s Development from March 31, 2000 to December 31, 2001

Cities Number of Full and Operating Aircraft
At Quarter Ended Served Part-Time Employees Owned / Leased Total
March 31, 2000 4 519 — / 3 3
June 30, 2000 5 665 1 / 4 5
September 30, 2000 9 993 4 / 4 8
December 31, 2000 12 1,174 4 / 6 10
March 31, 2001 12 1,599 4 / 7 11
June 30, 2001 15 1,764 4 / 10 14
September 30, 2001 17 2,078 6 / 12 18
December 31, 2001 18 2,361 9 / 12 21

Source: http://investor.jetblue.com, November 4, 2002.

JetBlue: Flying for Success, 31

APPENDIX I
JetBlue balance sheet for the three quarters ended.
Period Ending *** 30-Sep-02 30-Jun-02 31-Mar-02

Current Assets
Cash And Cash Equivalents $207,758,000 $269,325,000 $92,536,000
Short Term Investments $12,540,000 $11,397,000 N/A
Net Receivables $10,910,000 $16,795,000 $27,810,000
Inventory $4,684,000 $4,060,000 $3,168,000
Other Current Assets $10,936,000 $8,002,000 $9,365,000
Total Current Assets $246,828,000 $309,579,000 $132,879,000

Long Term Assets
Long Term Investments N/A N/A N/A
Property Plant And Equipment $858,905,000 $718,527,000 $627,706,000
Goodwill N/A N/A N/A
Intangible Assets $64,475,000 N/A N/A
Accumulated Amortization N/A N/A N/A
Other Assets $32,300,000 $30,337,000 $25,521,000
Deferred Long Term Asset Charges N/A N/A N/A
Total Assets $1,202,508,000 $1,058,443,000 $786,106,000

Current Liabilities
Accounts Payable $168,696,000 $135,579,000 $118,199,000
Short Term And Current Long Term Debt $76,032,000 $75,850,000 $81,057,000
Other Current Liabilities N/A N/A N/A
Total Current Liabilities $244,728,000 $211,429,000 $199,256,000
Long Term Debt $523,814,000 $437,203,000 $375,298,000
Other Liabilities N/A N/A N/A
Deferred Long Term Liability Charges $41,844,000 $32,520,000 $19,875,000
Minority Interest N/A N/A N/A
Negative Goodwill N/A N/A N/A
Total Liabilities $810,386,000 $681,152,000 $594,429,000

Stock Holders Equity
Misc Stocks Options Warrants N/A N/A N/A
Redeemable Preferred Stock N/A N/A $215,450,000
Preferred Stock N/A N/A N/A
Common Stock $421,000 $420,000 $44,000
Retained Earnings $629,000 ($11,526,000) ($25,168,000)
Treasury Stock N/A N/A N/A
Capital Surplus $401,245,000 $399,033,000 $12,450,000
Other Stockholder Equity ($10,173,000) ($10,636,000) ($11,099,000)
Total Stockholder Equity $392,122,000 $377,291,000 ($23,773,000)
Net Tangible Assets $327,647,000 $377,291,000 ($23,773,000)
***Note that IPO occurred on April 12, 2002

JetBlue: Flying for Success, 32

APPENDIX II
JetBlue Income Statement–September 30, 2002 vs. December 31, 2001

Quarter Ending Year ended

Period Ending:*** 31-Mar-02 30-Jun-02 30-Sep-02 As of 9/30/02 12/31/2001 Difference Percentage

Total Revenue $133,369,000 $149,303,000 $165,261,000 $447,933,000 $320,414,000 $127,519,000 40%

Cost Of Revenue $65,975,000 $54,964,000 $43,128,000 $164,067,000

Gross Profit $67,394,000 $94,339,000 $122,133,000 $283,866,000

Operating Expenses

Research And Development N/A N/A N/A

Selling General And Administrative Expenses $39,304,000 $60,937,000 $92,746,000 $192,987,000 $293,607,000 ($100,620,000) -34%

Non Recurring N/A N/A N/A

Other Operating Expenses $4,712,000 $5,695,000 $6,926,000 $17,333,000 $63,483,000 ($46,150,000) -73%

Operating Income $23,378,000 $27,707,000 $22,461,000 $73,546,000 $26,807,000 $46,739,000 174%

Total Other Income And Expenses Net $3,099,000 ($680,000) $6,497,000 $8,916,000 $15,108,000 ($6,192,000) -41%

Earnings Before Interest And Taxes $26,477,000 $27,027,000 $28,958,000 $82,462,000 $41,915,000 $40,547,000 97%

Interest Expense $4,187,000 $1,993,000 $8,470,000 $14,650,000

Income Before Tax $22,290,000 $25,034,000 $20,488,000 $67,812,000

Income Tax Expense $9,286,000 $10,448,000 $8,333,000 $28,067,000

Equity Earnings Or Loss Unconsolidated Subsidiary N/A N/A N/A $0

Minority Interest N/A N/A N/A $0

Net Income From Continuing Operations $13,004,000 $14,586,000 $12,155,000 $39,745,000 $38,537,000 $1,208,000 3%

Nonrecurring Events

Discontinued Operations N/A N/A N/A

Extraordinary Items N/A N/A N/A

Effect Of Accounting Changes N/A N/A N/A

Other Items N/A N/A N/A

Net Income $13,004,000 $14,586,000 $12,155,000 $39,745,000 $38,537,000 $1,208,000 3%

Preferred Stock And Other Adjustments ($5,011,000) ($944,000) N/A ($5,955,000)

Net Income Applicable To Common Shares $7,993,000 $13,642,000 $12,155,000 $33,790,000

***Note that IPO occurred on April 12, 2002