=20 ---------------------------------------------------------------------- This article was sent to you by someone who found it on SF Gate. The original article can be found on SFGate.com here: http://www.sfgate.com/cgi-bin/article.cgi?file=3D/news/archive/2002/04/23/f= inancial1019EDT0059.DTL ---------------------------------------------------------------------- Tuesday, April 23, 2002 (AP) More fliers decide 1st class just doesn't cut it SUSAN CAREY, The Wall Street Journal (04-23) 07:19 PDT (AP) -- COLUMBUS, Ohio (Wall Street Journal) -- At the vast NetJets operations center at the airport here, the scene looks like any other airline. Meteorologists track a front moving across the West. Crew schedulers juggle pilot assignments. Dispatchers clear planes for departure across the country. But take a look at the reservations area, which NetJets calls "owner services." Here, each agent has access to computerized files telling, for example, the names of the passenger's children, his wife's allergy to wool blankets and the couple's favorite brand of Champagne. To gain access to this information, the agents must sign a confidentiality agreement and undergo a background check that digs 10 years into the past. On a recent day, manager Cindy Webster handled a passenger's request that his plane be stocked with doggie chew toys. "If we have to order dog bones for the doggie on board, we do," Ms. Webster says. Another call came in from a passenger wanting to know which airport is closest to a particular address in Atlanta. Ms. Webster would find out and make the NetJets plane land at that airport. This extraordinary service helps explain why NetJets, a program run by Executive Jet Inc., a unit of Warren Buffett's Berkshire Hathaway Inc., is adding planes at a faster rate than any other carrier. It flies a fleet of 350 tiny jets -- Cessnas, Gulfstreams and the like, with seven to 19 seats each -- and is adding seven to nine new planes every month. While it's still struggling to make money in a ravaged air-travel industry, there's clearly more potential than anyone envisioned in the concept that Richard Santulli, Executive Jet's chairman and CEO, pioneered in 1986: the aerial limo service. Today, the program boasts 2,500 paid-up owners, many of whom fall into an unexpected niche: not quite rich or busy enough to own their own plane, but flush enough to spare themselves the growing hassles of commercial travel. Taking a page from the time-share industry for vacation properties, NetJets sells shares in each of its planes to as many as 16 parties for upward of $375,000 a pop, before various fees. But unlike time shares, fractional-jet owners don't have to take turns. If a NetJets owner's plane is busy, the company will send an identical plane or something better to pick him up. Or it will turn to the 85 jets it manages for corporate customers. Failing that, it will charter a plane from a roster of approved providers -- and in all cases will have a jet to the customer with just four to six hours of notice. Business has been unusually heavy in the wake of the beefed-up security and increased delays brought on by Sept. 11. "Even before 9/11, I was wasting 10 to 12 hours a week in airports," says Nello Gonfiantini, chairman of a real-estate-investment trust in Reno, Nev. Shortly before the terrorist attacks, he bought a share in a Beechjet from three-year-old Flight Options Inc., a NetJets competitor. He quickly upgraded to a 3/16ths share in the plane and has paid some $825,000 for the stake. "After 9/11, it would be physically impossible to cover the territory I need to cover" on commercial airlines, says Mr. Gonfiantini, who travels to two or three cities a week. As this airline model gains traction, commercial carriers -- some of whom have tried getting into the business, and then backed out -- can only tremble. They are being caught in an "hourglass" model of the marketplace that is also transforming cars, retailing, electronics and other industries: Consumers are flocking to the most expensive products and the cheapest products, fleeing the middle ground in between. That's trouble for the airline industry, which is losing its most-prized passengers to NetJets and its rivals. United Airlines once estimated that its most lucrative frequent fliers represented only 9 percent of customers but 46 percent of revenues, because they tended to travel more and pay full fare. And there's little commercial carriers can do to fight back. Even their best passengers must endure thicker congestion and longer delays than those faced by private-jet owners, who have the advantages of rarely needing to make connections, and being able to land at 5,000 U.S. airports instead of just the 500 or so served by commercial carriers. Though NetJets and others have beefed up security since Sept. 11, it's still much quicker to get through screening for a private flight than a commercial one. And faced with mounting red ink, airlines can't easily lower the rich prices they've been charging business and first-class travelers. It isn't clear that even lower fares would slow the growth of NetJets and its imitators, because their passengers appear willing to pay almost any price for top service and convenience. Indeed, NetJets' pricing system already is wildly uncompetitive with that of the airlines. The smallest fraction of any plane that a passenger can buy at NetJets is 1/16th. For that the buyer gets 50 hours of flight a year. The cost of a 1/16th share of a smallish Citation Excel, a twin-engine, seven-seat jet built by Textron Inc.'s Cessna Aircraft division, requires an up-front investment of $620,000, a monthly fee of nearly $8,000 and an hourly flight fee of almost $1,700. (That plane sells new for about $9.8 million.) At the end of their five-year contract -- or even before -- clients can cash in and get part of their original investment back, or use the fair-market value of their stake to reinvest in another plane. "There is no way to justify the cost of this," Tom Wajnert says of fractions generally, and of the ( share he bought in a Beechjet from Flight Options. But he can afford it and wouldn't think of giving it up. After retiring in 1997 from a senior post at an AT&T Corp. subsidiary, and giving up that company's corporate fleet, Mr. Wajnert, 58, says he spent a year "suffering along with commercial aviation." Now Mr. Wajnert, who runs a small investment-banking business out of Naples, Fla., can show up on a clients' doorstep on a day's notice. He can also impress clients with what he calls "the ultimate: `I'll send my plane for you.' " The privacy of the jet -- the owner determines who goes on each flight -- means he can conduct a confidential meeting on board. Because the plane hews to his schedule, he can hold meetings in three cities on a single day. NetJets is the largest player, with a 50 percent share of the fractional-ownership market. It employs 2,300 pilots in the U.S., Europe and the Middle East, a comparable number to the cockpit crew of the former Trans World Airlines. NetJets expects to operate 250,000 flights this year, up from 200,000 in 2001. Its service is catching on among athletes and entertainers such as Andre Agassi, Tiger Woods and Don Imus. Dale Douglass, a professional golfer on the senior circuit, upgraded himself from an airline seat to a share in a Citation jet in 1996. "I believe the NetJets program has a lot to do with me still being able to play at my age," says the 66-year-old, who was on the road at tournaments 27 weeks last year. Corporate accounts also are shifting to the fractional market, often to supplement corporate fleets or to serve as the equivalent of their flight departments. NetJets' clients include General Electric Co., Sun Microsystems Inc. and Prudential Insurance Co. When he was CEO of Texaco, Jim Kinnear had the oil company purchase a NetJets share in a small jet to augment the company's corporate fleet of larger planes and reduce the number of trips in which the plane is flown empty to get into position to meet a customer or return to base. "We really saved money," he says. When he retired in 1993, Mr. Kinnear bought a personal NetJets share primarily for trips between his Connecticut home and his farm near Danville, Va. "There is no commercial air service to Danville," he explains. "And I travel with a shotgun and three bird dogs." Fully 80 percent of NetJets customers have never owned a business aircra= ft before. The concept "attracts a layer of customer that had need for a jet on an occasional basis but couldn't afford whole-plane ownership," says Howard Rubel, aerospace analyst for Goldman Sachs & Co. "The size of the business has surprised me." Some customers are signing on because they found owning a private plane was simply a burden. Actor Arnold Schwarzenegger had his own Gulfstream for several years and didn't like the headaches. "You have the pilots at your throat about vacation, that their wife is pregnant, why they can't have New Year's Eve off," he says. "It's on and on and on." Now, with fractions in several NetJets planes, Mr. Schwarzenegger says he lets the company worry about managing the crews and all other details. "I had to get over the ego thing: It's (not) my plane," he says. "I like this package better." NetJets' story began in 1984 when Mr. Santulli, now 57, bought an ailing charter company in Columbus, Executive Jet, as a platform for doing aircraft leasing deals. A mathematician and former investment banker, Mr. Santulli started mulling buying a plane but figured he wouldn't use it enough to justify the expense. He asked three friends to go in with him and they immediately argued about who would get the plane when. So he came up with algorithms that essentially figured out how many back= up planes would be needed to provide round-the-clock availability to a group of fractional owners. In his first year, he sold three fractions. By 1992, he had sold 18 plane's worth of slices to about 90 owners, and the business nearly sank during that recession. Even now, fractional-ownership carriers, like their larger rivals, throw off stingy profits, if any at all. "It's not a high-margin business," says Mr. Santulli. "It's a business that requires tremendous capital ... and staying power." Indeed, it took nine years for Executive Jet to become profitable after it shifted its focus to fractions from managing jets on behalf of other companies. Today, Executive Jet is still in the business of managing corporate fleets and is a major charter-flight broker. Despite $2 billion in revenue, the company slipped into the red again last year because of costs associated with its fledging European operation. Strong demand has attracted a host of start-ups, too, each offering specials to attract customers. "The pricing model today is not good," says Mr. Santulli. Fierce competition exists between NetJets and Flight Options, a Cleveland-based specialist in fractional ownership of used aircraft. Last month it became the No. 2 player by acquiring Raytheon Co.'s loss-laden Travel Air new-plane fractional service. Flight Options, which now has 200 new and used planes, hopes to surpass NetJets as the top dog in three or four years, says Kenn Ricci, the CEO. Various other players have sprung up with similar ambitions, including Flexjet, owned by plane builder Bombardier Inc., and CitationShares, which is partly owned by Textron. Still others sell not ownership but memberships, in which a passenger puts down, say, $100,000, then receives that amount worth of on-demand charter trips. A market leader in that field is eBizJets Aviation LLC. Indeed, so crowded and tough is the fledgling market that the largest commercial airline companies -- United parent UAL Corp. and American parent AMR Corp. -- both got out. In launching a fractional subsidiary a year ago, UAL said it wanted to win, or win back, the customers that it had lost to the likes of NetJets. AMR had similar reasons for taking a stake in Flexjet. But both ejected, saying they wanted to concentrate on their core businesses. Mr. Buffett is the unlikely owner and unabashed pitchman of NetJets through his Berkshire Hathaway investment vehicle. Stung a few years ago by losses on a big stake in US Airways Group Inc., Mr. Buffett took a public stand against investing in the industry. "I swore off airlines," he concedes. But Mr. Buffett is famous for investing in products that he himself likes and uses. That's what happened after his wife became a NetJets customer in 1995, and then his aunt after that. He noticed that flying NetJets was easier and less expensive than owning a plane. The Omaha investment guru was impressed by the program's growth rate, customer service and impeccable safety record. When he learned that Mr. Santulli was thinking about selling in 1998, Berkshire quickly bought Executive Jet for $725 million. Mr. Buffett sold Berkshire's corporate jet soon after and now gets where he is going on NetJet fractions. It isn't the simplest business he ever purchased, and its profit margin will never equal that of See's Candies or the Buffalo News, two other Berkshire companies. The competitive battle currently raging in the market likely means that Executive Jet will at best produce modest profits for the next few years, he reckons. But long-term he is bullish. "I think it will be a very big business," Mr. Buffett says. "It will be big, and we will be No. 1." It is a hard business to manage, one that makes full use of the mathematical skills of Mr. Santulli. What are the probabilities that all 300 Gulfstream shareholders will want the 58 planes at the same time? How many backup planes must be owned to cover that eventuality? In addition to the planes owned by its shareholders, NetJet owns an additional 50 planes just for backup purposes, a huge fixed cost. When it simply can't meet a shareholder's request for a plane, NetJet turns to a roster of charter providers and eats most of the cost. Other challenges include scheduling the flights to minimize the times planes fly empty and matching the pilots, who each fly only one model type, with demand within the limits of their duty times. "It's a game we play," says Al Peters, vice president of scheduling at NetJets. "I've either got more aircraft than crew one day or vice versa." In this three-dimensional chess game, Mr. Peters also must think about spreading out the planes in each fleet type so they're not all bunched up on the East Coast. Because Mr. Peters moves planes around like pawns, his pilots always check in when they wake up in the morning. Often their planes have vanished overnight to fly other missions. Either another plane will be flown in, or the pilots will be sent -- often on commercial airlines -- to catch a plane in a different city. At the moment, NetJets' labor costs are well below those of the airline industry. Pilots, whom NetJets recruits from the military, corporate fleets and the growing ranks of laid-off commercial pilots, tend to like this job because it gives them new jets to fly and more freedom and variety in their work schedule. But unhappiness is building about pay, which tops out at $100,000 a year -- below the industry standard even for the business-aircraft industry. The majority of NetJets' 1,600 U.S. pilots, who are represented by the International Brotherhood of Teamsters union, are bucking for a substantial raise in current contract talks. The big question is how much growth exists beyond this market's current customer base of corporate buyers and individuals who have the earning power to pay the hefty fees that go with these five-year contracts. "The market isn't going to keep going up and up," says Richard Aboulafia, an aviation consultant with the Teal Group. "It's always going to be a niche." That's how Vinod Gupta uses it. Mr. Gupta, chief executive of infoUSA Inc., an Omaha, Neb., provider of proprietary data bases, has his pick of four NetJet models and a total of 400 flight hours a year. "But if there's a nonstop flight," he says, "I'll always take commercial. I fly Southwest all the time, Omaha to Las Vegas." The fractional jets, which are used by infoUSA's 15 top executives, literally buy the company time, he says. Of course, Mr. Gupta adds, "you have to have money to pay for this time-savings." =20 ---------------------------------------------------------------------- Copyright 2002 AP