Pilot Error

In an exclusive interview, exiled American Airlines CEO Don Carty reveals how he lost his job—and where the most important employer in the metroplex is headed now.

September 2003By Comments

LAST SPRING, WHEN DON CARTY WAS being widely hailed as the man who had saved American Airlines from bankruptcy, I never imagined that I would be standing on the deck of his well-appointed timber lodge in Whistler, British Columbia, talking to him about what had gone so disastrously wrong. As recently as April, the 57-year-old executive held the most important job in the airline industry—CEO of American, the largest airline in the world. He had pulled off a stunning piece of brinkmanship, the largest consensual (not court-ordered) corporate reorganization in the nation’s history, and he had done it by leading by example and treating the unionized pilots, flight attendants, and transport workers as partners instead of mortal enemies. He took the unions in, opened his books, and told them more about the company’s business than any American manager ever had. Unlike his snarling, combative predecessor, Robert Crandall, in his five-year term as CEO Carty had tried to remake the unforgiving, top-down, hyperagressive culture of American and its parent company, AMR Corporation, into something friendlier and more humane. He was a nice guy. He had tried to do the right thing.

And then, unaccountably, he made one large, irrevocable mistake. In the wake of an emotionally charged labor negotiation over huge wage cuts for American’s roughly 100,000 workers, news broke that he had concealed about $40 million in executive perks from the unions, who went nuclear when they found out about it. Critics called Carty’s move “shameful” and “appalling.” Carty resigned, some reports said, “in disgrace.” As a BusinessWeek headline put it, “What was Don Carty thinking?”

I had gone to British Columbia, having been granted the first full interview Carty has given since his resignation, to get some answers to that question—and another one: What is the future of American, to which the economic fate of Dallas, Fort Worth, and North Texas is inextricably linked? As air travelers who go through Dallas-Fort Worth International Airport are constantly reminded, American Airlines is less a company in the traditional sense than a colossal organizing principle, an idea around which enormous numbers of people (24,600 employees in North Texas), enterprises, and cities have coalesced. A bankrupt, or dismantled, American Airlines is not a pretty thought.

“In hindsight, I did make a mistake,” Carty said, sounding penitent. “I very publicly apologized. We should have put that information [about the executive perks] out there. I am sad not to be part of the recovery. I am sad that some of my employees think of me as a bad guy.” During our interview, he was seated across from me at his dining room table, a friendly, outgoing man in shorts and a Hawaiian shirt. He seemed happy with his new life—and who wouldn’t be? These days he hikes the snow-tipped mountains that ring his house, romps with his four-year-old son, drives his nine-year-old stepson to hockey practice, looks after board memberships that range from Big Brothers Big Sisters of America to the Dallas Symphony, Southern Methodist University, Dell Computer, and Sears, and fields half a dozen calls a day from headhunters.

The story he told, gazing periodically toward the liquid sunshine cascading down the vertical slopes of Blackcomb Mountain, was nothing like what I had read in the newspapers about his fall. He insisted that his so-called money grab was a media-fueled illusion, and he wanted me to understand, by way of background, the full context of American’s perilous run-up to bankruptcy in late 2002 and early 2003. It began with a Biblical concatenation of disasters: “We were already going into a recession in 2001. Then there were the unbelievable events of 9-11, when twenty-three of our employees were killed. Two months later, there was the crash of Flight 587 in Queens. More death, and a crisis of confidence in one of our aircraft types, the A-300. Then, about a month later, the shoe-bomber happened in Paris, and everybody said, ‘Well, of course American is a target; it says “American” on the side,’ and we lost even more passengers. Then the price of fuel goes through the roof in anticipation of Iraq. Iraq happens, and then SARS hits, and we are the biggest U.S. carrier in Toronto. I have left out the hailstorm that grounded one hundred planes in Dallas. We had to shrink the company twenty percent, lay off twenty thousand people.”

Even before the events of 9-11, Carty and his management team had known that American would have to cut $4 billion in operating expenses to survive. The most intractable problem, he said, was wages, which had spiraled upward in the fat times of the nineties. Unions asked for—and got—large pay raises, using strikes or the threat of strikes as a bargaining tool. In bad times, revenues dropped, but the cost of labor remained high. This cycle, and some good old-fashioned mismanagement, was the main reason that, of the one-hundred-plus carriers that started up in the deregulation era that began in 1978, only a few survive—and why established airlines like Pan Am, Eastern, and TWA (which American took over) failed. But there were other problems too: While airlines were rolling in profits, they forgot all about streamlining their operations. “The error of the traditional airlines,” said Carty, “was that we didn’t see a big need to change.”

By early 2003, though, American’s troubles were too obvious to miss. It needed to reduce its costs immediately. Management figured out how to achieve more than $2 billion in savings through fleet simplification (fewer types of aircraft) and technology and productivity improvements. The rest would have to come from lowering workers’ wages, and that required Carty’s getting the unions to go along. “They had to believe that management had done everything they knew how to do short of coming to labor,” said Carty. “They had to believe it was really four billion dollars. The way we did that was to share more data about this than we had ever shared before.” He promised them that American’s top management would share the pain—some $100 million would be taken out of the paychecks, bonuses, and stock-option plans of the top echelon of executives. Carty himself would waive his normal bonus and stock award and reduce his salary by a third. Then he told the unions that they would have to give up $1.6 billion in wage cuts and work-rule changes (such as how many hours pilots must fly per month), which meant up to a 40 percent cut for a few employees. He gave the unions a choice: concessions or bankruptcy. On March 31, American, teetering on the edge of insolvency, stopped paying its bills. Sixteen days of white-knuckle ratification proceedings later, the unions agreed to concessions. This was by no means the obvious choice. Other airlines had opted for bankruptcy, even with its potentially harsh consequences. Many American employees and even several members of AMR’s board favored bankruptcy.

On April 15, however, American had had to file its annual 10K form with the Securities and Exchange Commission, in which it reports the financial results of the previous year. Two days later—and just hours after the new union contract was ratified—the Wall Street Journal broke the news that the AMR board, which Carty chaired, had approved $40 million in executive perks during 2002 that the union had not been told about during the negotiations. It was all there in the 10K filing: $15 million in “retention” bonuses for several top managers—including Carty—if they stuck around for three years and bankruptcy protection for a $25 million executive-retirement plan covering the top 45 officers.

Carty told me that the perks were an effort to staunch the loss of American’s top managers, which became a major worry after 9-11. Many had in fact already left the company. Fair enough. But why wait until the 10K to reveal them—and why had Carty later chosen not to tell the unions about them? Two very simple and very human reasons, he said. First, protecting executive pensions from bankruptcy is a clear signal that a company is in financial trouble, and American didn’t want the world to know how bad things had gotten. Second, Carty didn’t want the executives who weren’t getting the retention bonuses to know about them. He did say that he mentioned the need to do something to keep his executives in an early 2003 meeting with the unions but not in a specific way. “The mistake I made right there,” he said, “is that I should have been very explicit about what we had done and had not done. I wish we had done it earlier and shown them all of it.”

So, as BusinessWeek asked, what was he thinking? He had to know that the perks in the 10K were going to become public during the negotiations. Carty said that he took comfort in the fact that other airlines had made more-extensive moves. “I was feeling pretty good about it coming out,” he said. “That sounds ironic, but Delta and Continental had just released what they had done on executive compensation and ours was modest by comparison. My naive view was that the press would compare American with Delta and Continental and say, ‘This is a pretty responsible board.'” Naive is right: Anyone who reads more than the comics ought to have known that the story would read something like, “At the same time that American Airlines was demanding $1.6 billion in concessions from its unionized employees, the company gave $40 million in perks to its top executives.” Carty also thought that his 33 percent pay cut and forgoing regular bonuses and stock awards, plus his agreements to cut $100 million from management’s payrolls and his willingness to defer his own retention bonus, would demonstrate his personal leadership. In retrospect, this was an astonishing miscalculation.

After the storm broke, Carty apologized publicly and profusely. But it was too late to undo his mistake. The press smelled blood, and the unions were threatening to back out of the deal, an act that would force American to file for bankruptcy within hours. “I knew there was no way to put things back together unless I resigned,” Carty told me. “Any executive-compensation package seems excessive to the line employees, anytime, but particularly when you are asking them to make cuts.” He announced his resignation, preemptively, in yet another all-day, white-knuckle piece of brinkmanship that saved the airline for the second time in eight days. “I had a lot of regret, obviously,” he said. “I loved American. But I knew that what we had spent two years doing would be undone if I didn’t resign. And what would I have had, a bankrupt airline?”

What about the future of American Airlines? I asked. Carty was surprisingly upbeat, considering the glum outlook for the airline industry: “I feel enormously good that the company is out of bankruptcy, that the board is still there and the management team is still there.” (Carty’s chosen successor, Gerard Arpey, is now the CEO of the company.) The $4 billion cost reduction, he said, should be enough to make American “extremely competitive” again, even against start-ups like JetBlue Airways. Because American has a higher revenue potential than low-fare carriers such as Southwest Airlines, thanks to first-class and business travel, Carty said American can afford to have 20 to 30 percent higher costs, although some analysts put the figure nearer to 10 percent. “I would be nervous if I were one of the start-ups,” he said. “Watch the third quarter.”

But he also cautions that the good old days of the nineties will never return. “The hard thing for our employees is that some of them think this is a temporary sacrifice to save the company,” Carty said. “But it is something far more permanent, far more fundamental. The old work rules are never coming back. Compensation increases are going to closely parallel what is happening in the rest of the economy. Being a pilot is never again going to be what it was.”

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