UPS Acquires Most of Challenge Air Cargo

By Staff -- Logistics Management, 8/1/1999

United Parcel Service (UPS) took a giant step toward expanding its presence in the Southern Hemisphere when it announced plans to purchase the assets of Miami-based Challenge Air Cargo, a leading all-cargo airline serving the Caribbean, Central America, and South America. Terms of the proposed acquisition were not disclosed.

Included in the deal are Challenge's cargo and ground handling facilities in Miami and Latin America, leases for ground and warehouse equipment, information systems, and--most important to UPS--the airline's route operating authorities to 17 cities in 13 countries. Challenge's DC 10-40 and Boeing 757-200 aircraft are not included, but the carrier probably will operate the freighters for UPS for up to one year, said Challenge Air Cargo President Bill Spohrer at a press conference announcing the agreement. Spohrer said he expected that most of Challenge's 1,200 employees in Miami and in Latin America would be retained, but positions that duplicated existing UPS jobs probably would be eliminated. The merger is scheduled for completion by early next year.

Challenge was formed in 1978 by two local entrepreneurs. Spohrer and a partner bought the young airline in 1981. The current owner is Chairman Peter Ullrich, who will retain ownership of the company's aircraft. Last year, the carrier's revenues were $131 million, representing about 18-percent growth compared with 1997 figures.

UPS's decision to purchase Challenge did not come as a great surprise; the two carriers have been cooperating in Latin America for more than a year.

For UPS, the acquisition offers numerous advantages. Big Brown has so far concentrated most of its efforts in Mexico and Puerto Rico, but has been pushing hard in recent months to expand its presence in South America. By absorbing Challenge, UPS will acquire service capabilities, equipment, personnel, infrastructure, and operating authorities that would otherwise have taken years to develop, said Bob Elizondo, vice president for operations, Latin America and Caribbean, at the press conference. "We see this now as an opportunity for UPS to provide seamless service throughout Latin America and to extend our service from Latin America to the rest of the world," he said. "We consider Latin America [to be] the fastest-growing market in the world, and we are very eager to make sure we continue to grow in this area."

UPS will need to clear a few hurdles before Elizondo's vision becomes reality. First, the company will have to gain approval of its acquisition of route authorities and landing rights from the U.S. Department of Transportation and from the destination countries' governments. Elizondo said that although UPS was not taking those approvals for granted, he did not expect any difficulties in obtaining them.

UPS also will have to convince Challenge Air Cargo's customers--primarily international freight forwarders--that it will be able to provide the same or better service than Challenge now offers them. That may take some doing because UPS mostly handles small packages and Challenge's mainstay is perishable and heavy freight. Some forwarders also see UPS, an integrated carrier, as a competitor. Elizondo and Spohrer said they would visit customers to discuss those and other concerns.

Perhaps the biggest hurdle will be overcoming the cost differential between the two carriers, says aircargo consultant Edwin C. "Ned" Laird of Seattle-based Air Cargo Management Group. "UPS's costs are substantially higher than Challenge's," he notes. "Challenge is run on an entirely different cost basis--it is non-union everything." After the first of the year, when UPS aircraft begin flying Challenge's routes with unionized pilots and ground crews, the carrier's costs will rise--and that may prompt a rate increase, he says. Laird points out that history is not encouraging on the subject of integrated carriers' acquiring heavyweight cargo airlines: When FedEx purchased Flying Tigers, it lost $1.5 billion worth of business after it was forced to raise rates. "If UPS continues to operate at Challenge's rates, it'll do just fine," he says. "If UPS needs to raise rates ... it may become non-competitive. There's plenty of capacity to South America."