Lan Chile S.A.

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Lan Chile S.A.

Avenida Americo Vespucio 901
Renca
Estado 10
Santiago de Chile
Chile
Telephone: (2) 687-2525
Toll Free: (800) 735-5526
Fax: (2) 687-2483
Web site: http://www.lanchile.cl

Public Company
Incorporated: 1929 as Linea Aeropostal Santiago-Arica
Employees: 8,100
Sales: $1.08 billion (1998)
Stock Exchanges: New York
Ticker Symbol: LFL
NAIC: 481111 Scheduled Passenger Air Transportation; 481112 Scheduled Freight Air Transportation; 481212 Nonscheduled Chartered Freight Air Transportation; 481211 Nonscheduled Chartered Passenger Air Transportation

Four million passengers a year fly Lan Chile S.A., or LanChile as it has been styling itself since the mid-1990s. After surviving decades of the most precarious financial situations, the carrier has been transformed under the leadership of the Cueto family, which had previously demonstrated its air cargo expertise as operators of Fast Air. A new alliance with American Airlines and the Oneworld system ensures LanChile a dominant position in the fastest growing aviation market at the dawn of the millennium.

Air Force Origins

Comandante Arturo Merino Benitez, founder of the National Air Force and Chile’s first General del Aire, created Línea Aeropostal Santiago-Arica in 1929. Its first duty was to fly the mail and some passengers between Santiago and Arica, on the Peruvian border, with de Havilland Gipsy Moth aircraft (although small and light, the Gypsy Moth’s impressive altitude records sold it with the Chilean authorities). The next year the Chilean Air Force supplied the airline with three larger Ford Trimotors. It flew 95,000 passenger miles (762 passengers) its first year.

At that time, PAN AGRA, the joint venture between Pan American Airways and the W.R. Grace shipping company, had just started its mail service from Panama. So influential was W.R. Grace that PANAGRA continued to operate in what would have otherwise been a monopoly for the Chilean state carrier. Línea Aeropostal had been connected to the routes of Aeropostale, the French mail carrier. The French government withdrew support for that enterprise, however, in 1931.

The airline was made its own agency separate from the Air Force in 1932, taking simply the name “Línea Aérea Nacional” or LAN for short. LAN received exclusive cabotage privileges within Chile—that is, the right to carry passengers between points within the country.

The late 1930s saw a proliferation of LAN’s routes. Its routes had covered about 1,000 miles since it was founded, but after 1935 the figures were closer to 2,000 and 3,000 miles. These were subsequently pared back. After losing money for four years, LAN reached earnings of about $39,000 on revenues of $509,000 in 1940. At the time fares amounted to about nine cents per mile. Mail and subsidies accounted for 71 percent of revenues, up sharply from 42 percent the year before. In 1941, LAN posted $300,000 in profits on revenues of $661,000. The number of passenger-miles flown also had increased handsomely, from 2,160,000 to 3,490,000.

After experimenting with different aircraft on various routes, LAN bought three Junkers Ju-86 cargo planes in 1938. The German design was fast but lacked range. Its parts supply chain was cut off by WWII, so LAN switched to U.S.-made Lockheed aircraft. Fares were reduced after the changeover to these newer planes, resulting in a more than tenfold increase in passenger journeys between 1940 (2,600) and 1945 (27,000). With these numbers, the company felt safe in expanding its route structure again. After the war, LAN flew its first international route, to Buenos Aires. It shared this route with FAMA, an Argentine carrier. LAN then finally began flying Santiago-Punta Arenas with a DC-3.

Postwar Competition

The Chilean government allowed new international airlines to operate in its skies beginning in 1953. Two local upstarts, Compañía Nacional de Turismo Aéreo (CINTA) and ALA, Sociedad de Transportes Aéreos, challenged LAN and PANAGRA with fares sometimes cheaper by half. The two new entrants effectively created a new market of budget travelers to Cuba and the United States. By 1957, however, they had merged. A new company, LADECO, took over their routes. It catered to copper mining interests, hence its full name, “Linea Aerea del Cobre, Ltda.” CINTA-ALA continued flying until the 1959 revolution in Cuba and declared bankruptcy two years later.

The Chilean state carrier adopted the appellation “LAN-Chile” as its route network expanded across South America. With new Douglas DC-6 aircraft, it reached Miami in August 1958. LAN had, in December 1956, sent a plane to Antarctica, where Chile claimed territory. The network expanded westward as well. LAN Chile began service to Easter Island, making that remote and unique destination accessible as never before. Tahiti was added in 1968. LAN stretched across the Atlantic in 1970, reaching Madrid, Paris, and Frankfurt. Secondhand Boeing 707 and 727 jets were becoming the mainstays of its fleet. The Boeing 707 allowed nonstop Lima-New York service beginning in 1968. Fiji became the new westernmost destination in 1974.

In 1964, Eric Campaña had been brought in as executive vice-president to try to make LAN profitable. He succeeded, not only in that but in formalizing the airline’s role as a state carrier. These improvements were not continued into the next decade, however.

Turning Left and Right in the 1970s

The election of Dr. Salvador Allende, a Marxist, to power in 1970 brought about a political realignment of Chile through which LAN Chile had to navigate with some finesse. It reinitiated, briefly, service to Madrid via Havana in 1971. Cuba was then Chile’s newfound friend in the western hemisphere. The airline also felt political pressure to buy Soviet Ilyushin 11–62 jets, a prospect management dreaded, because of the aircraft’s substandard performance, unreliability, and the distance over which replacement parts would have to be shipped. LAN Chile was able to avoid buying any of them, in spite of government urging. The nationalization of a copper mine resulted in LAN Chile’s New York facilities being seized by the U.S. government and service to that city stopped for a few days.

Operationally, the carrier had to deal with cut fares and a doubled work force of 4,000. The airline nevertheless was able to make some significant achievements during Allende’s reign, such as doubling the number of European flights. It investigated routes to Australia and flew its first charter to Sydney in September 1973 on an innovative Great Circle route (France would have been unlikely to grant it more landing rights in Tahiti at the time). This was not developed into scheduled service, however, because of the lack of a reliable alternate landing field.

Allende was assassinated on September 11, 1973, opening the way for the Pinochet regime. Several of the small air freight companies that had been closed down began operating again, if only briefly. Several new domestic airlines also were formed. The preferential exchange rate that had kept LAN afloat during the Allende years was abolished, forcing the carrier into debt. It halved its work force again but was left with considerable severance payments. LAN was able, though, to develop its western South America network, and it added a nonstop Santiago-Miami flight in November 1977.

The government’s new “open skies” policy exposed LAN Chile to unprecedented competition beginning in 1979. Its domestic market share was consumed by LADECO after that carrier’s new owners, Grupo Cruzat, invested heavily in modernizing it. For the first time, LADECO had begun competing on LAN Chile’s own routes, controlling a majority (63 percent) of the domestic market by 1980. Before deregulation, LAN Chile had a 70 to 80 percent share.

LAN was still hindered by government bureaucracy. It could take months to gain permission to buy an aircraft. It also was stuck with extremely generous pilot contracts. By 1983, the airline was in a very precarious position, owing $60 million to banks even after government transfers of $165 million. The airline was virtually bankrupt.

Drastic action was necessary. Under the leadership of company president Patricio Sepulveda, LAN Chile was closed down in 1984. A new LAN was started up, free of old debts and labor agreements. Employment was halved; many former workers became suppliers on a contractual basis. Management also was restructured. In exchange for the old LAN’s $56 million debt, the Chilean government held 98.7 percent of the new LAN through its CORFO holding company. CORFO (Corporación de Fomento de la Producción) also paid about $11 million in other obligations.

Company Perspectives:

LanChile is now flying the world’s skies spreading the unique and gentle spirit of the South of the World, through its friendly and modern service. Renowned for it abundant hospitality, LanChile mirrors the nature of our warm and friendly people, their hospitality and warmth. The identity of LanChile captures the colors, the textures, the sounds and the aromas representative of the vast Chilean landscape with a personality that offers a friendly and cordial service typical of the Chilean people. Our new service-oriented philosophy is the result of a reinforcement of our traditional values in a fresh and modern way. LanChile, the airline of Chile, seeks to match the quality and service standards of our international competitors in order to compete in the global market. We aim to offer you the best of both worlds —the warmth and hospitality of our people together with a modern, efficient and professional approach.

Lan Chile moved quickly to regain market share. It invested in new Boeing 767s and increased its routes and flight frequencies, particularly to the United States and Argentina. It controlled nearly half the domestic market in 1986. (Annual sales were about $145 million, up from $18 million in 1984 and $33 million in 1985.) Meanwhile, its rival, LADECO, had declared bankruptcy, been taken over by the state, and then again transferred to private owners. The idea of privatizing Lan Chile also had begun to take shape.

Privatization in 1989

Originally, the Pinochet government had considered selling about 30 percent of Lan Chile to private investors. It first sold about 16 percent at a low share price to LAN’s workers in 1988. A subsequent offering of 32.7 percent of the airline failed to attract enough qualified bidders. A majority offering finally succeeded, and in September 1989 ICAROSAN bought a 51 percent interest in the company. ICAROSAN was a local investment group led by Guillermo Carey that had previously owned 12.5 percent of LADECO.

Carey had backing from SAS (Scandinavian Airline System), and within a year of the purchase that carrier had itself invested $25 million for a 30 percent share of Lan Chile. SAS had aspirations of becoming a global “megacarrier” and recently had been frustrated in its attempts to acquire Aerolíneas Argentinas. It did not finalize the deal to become the largest stockholder, however, until a few days after President Patricio Aylwin took office in December 1989. An April 1990 stock offering left ICAROSAN and SAS with an even larger percent share of the company (16.6 percent and 41.2 percent, respectively).

With the new capital and some new debt, Lan Chile invested in a $550 million fleet renewal program, leasing or buying new state-of-the-art Boeing 767s for international routes and British Aerospace BAe 146 jets with which it expanded its domestic network. Employment rose 50 percent as well.

The result was a disaster. Lan Chile had ordered far too many planes, at a commitment of $48 million per year. The Persian Gulf crisis drove up the price of jet fuel, a major expenditure for any airline. By the end of 1990, SAS had ousted Carey and set about attempting to unload as many planes as it could.

The Cueto family, which owned cargo carrier Fast Air, gained a controlling share of Lan Chile in 1994, with Enrique Cueto becoming chief executive. Cueto, former CEO at Fast Air, surrounded himself with the best managers he could find and set out to renegotiate the carrier’s aircraft leases (some with “outrageous terms”). In the future, the airline would prefer to own more of its planes. Standardization of the long-range fleet around the Boeing 767 was a priority.

Buoyed by a recovering economy and atmosphere of political reform, Lan Chile again found profitability in the mid-1990s, posting income of $5.7 million, $24.5 million, and $38.3 million in 1994, 1995, and 1996. The cargo sector provided the most immediate opportunities, and the passenger market grew rapidly in the next few years.

In 1994, Lan Chile bought Fast Air, a 16-year-old, two-plane cargo line specializing in the Miami-Santiago route. The next year, after some sophisticated antitrust maneuvering, Lan Chile also took over the next largest airline in Chile, LADECO, which operated about 20 airliners at the time of the takeover. One condition of the purchase was that the carriers continue to operate separately. LADECO continued to have difficulty posting a profit after the acquisition.

LanChile (as it was dubbed by then) was reorganized in April 1997, floating some 30 percent of its shares on the local stock market. A subsequent $100 million offering was launched on the New York Stock Exchange, making LanChile the first Latin American airline listed there. Investor worries connected to the Asian financial crisis, however, conspired to produce somewhat disheartening results. Only $135 million was raised, half what was expected. In September 1997, the carrier signed into an alliance with American Airlines, but would have to wait a couple of years for U.S. government approval to fully realize its partnership.

LanChile agreed to purchase 20 Airbus A320 short-haul jets in February 1998. The Airbus consortium was bidding against Boeing and offered more beneficial financing. LanChile actually had participated in an arrangement with TACA and TAM, airlines of E1 Salvador and Brazil, that gave the group a volume discount commensurate with Airbus’s second largest order ever.

The late 1990s was a period of incredible growth—more than 30 percent a year. Cueto stressed that he was not after growth for its own sake, but was more interested in profits. High levels of service was a means to that end. LanChile invested $30 million in implementing a corporate image program to reflect its commitment to becoming a world-class carrier. A new office complex in Santiago was opened about the same time.

Key Dates:

1929:: Línea Aeropostal Santiago-Arica is created to fly mail and passengers.
1932:: Airline is separated from Air Force, taking name “Línea Aérea Nacional.”
1946:: LAN flies first international route, to Buenos Aires.
1958:: Route network reaches Miami.
1964:: New management is brought in to reverse financial decline.
1970:: New leftist administration of Dr. Salvador Allende radically changes carrier’s operating environment.
1979:: Chilean government deregulates its skies.
1984:: LAN Chile is restructured, begins vigorous campaign to recapture lost market share.
1989:: Government sells 51 percent of LAN Chile to private investors.
1994:: LAN Chile becomes 100 percent privately owned.
1995:: LADECO, Chile’s next-largest carrier, is acquired.
1997:: Shares are offered publicly on local market and New York Stock Exchange.

The entrance of Continental into the U.S.-Chile market dampened LanChile’s income in 1998; however, its cargo operations continued to be highly successful. LanChile was the largest freight carrier in Miami, where it had relocated its cargo operations in 1996 and spent $50 million on new facilities. One area of fantastic passenger traffic growth was Peru, which also signed an open skies agreement with Chile.

While negotiating for an open skies agreement, signed in early 1999, the Chilean government pressured the United States for approval to a code sharing arrangement between LanChile and American Airlines. The alliance gave the two airlines dominance of both the Chile-U.S. market and Miami and led to Lan Chile’s inclusion in the global Oneworld system, which included American, British Airways, Cathay Pacific, Canadian Airlines, Quantas, Finnair, and Iberia.