(FORTUNE Magazine) – On the Veterans Day when he became an even more grizzled veteran of disaster management, American Airlines CEO Donald Carty stared incredulously at the television in his Fort Worth office. Smoke billowed from the wreckage of yet another AA plane. As colleagues joined him to watch, he looked at their faces and wondered, "How much can we take?"

He kept wondering as he flew to New York with 120 members of American's post-crash teams, which assist government investigators and victims' families. He wondered more as he tried to say the right words to grieving New York flight attendants, then watched them "dry up their tears, button up their uniforms, and go to work." He saw the raw nerves of a gate agent, squaring off with a passenger bent on taking her pit bull onboard. Carty personally interceded, but after he moved on, the dog bit the gate agent. He returned to find the employee bleeding but refusing to leave her post. And that, in a strange way, buoyed Carty's confidence near the end of another terrible day. "This is a company that can take a punch," he thought.

But how long can it endure the beating it's been given? The whole industry has major problems, but those of American, the biggest airline, are writ large. AMR Corp., as the parent company is called, lost $414 million in the third quarter, even with several hundred million dollars in federal aid; analysts forecast a loss of $645 million in 2002. It is one of the industry's best-run companies, and unlike many others, it has ample liquidity. But American's contentious unions will not make it easy to reduce high fixed costs. And its bread-and-butter customer, the business traveler, will not soon return in the numbers of the good old days of 2000.

The company's human duress fully matches its business distress. American employees have endured the shock of 36 colleagues losing their lives and 20,000 losing their jobs. After Sept. 11, several thousand flight attendants and 700 pilots were too traumatized to fly. Most are back in the air now, but nothing is back to normal. Boston flight attendant Lenny Aurigemma, who lost nine colleagues in the Twin Towers inferno, was in a plane's galley recently when a passenger approached from behind with a question. Startled, Aurigemma screamed. He had just begun to feel better when Flight 587 crashed. "Time had helped comfort those feelings, and this rubbed them raw again," he said.

As he spoke, Aurigemma was nonetheless preparing to leave for New York to help. It's that spirit that has seen American through its darkest hour. In the desperate days after Sept. 11, the usual tribal divisions within the company dissolved--temporarily. Employees flocked to the Fort Worth operations center to man phones, make sandwiches, do whatever they could to pitch in. Four days later, as American resumed operations, thousands of flight attendants ended vacations and ignored union rules to fly in place of fearful colleagues who couldn't. In Tulsa a team of engineers and machinists pulled an all-nighter to design a cockpit-door bar, doing their bit for security and such a good job of it that the "Katie bar," as it's known, was installed on all 900 AA planes within a month.

American executives can't expect endless heroics from employees--grumbles and grievances have already resurfaced--so they now face a defining corporate moment: Can the company that did so much to shape the post-deregulation airline industry now reshape itself for a post-Sept. 11 world? An executive corps that's been coolly, even coldly, competent must now be intuitive, imaginative, opportunistic. A management that has always analyzed to the nth degree must operate on a wing and a prayer. American makes no grand, long-range plans these days; it just tries to make payroll. Says CFO Tom Horton: "It's almost like we're going through a new budget cycle every week."

On Don Carty's sloping shoulders rest not just the travails of the present but the weight of history. He's only the fourth CEO in American's 75-year history, which dates back to Charles Lindbergh, who flew for a predecessor company. American was the first airline to offer coast-to-coast jet service, the first to computerize its reservation system, the first to develop a frequent-flier incentive program. Robert L. Crandall, the CEO from 1984 to 1998, is widely considered the most brilliant mind of the deregulation era. He sure was smart enough to walk away at age 62, when the business was at its peak.

Crandall has been a tough act to follow for Carty, and not just because the cycle turned with a vengeance. The charismatic Crandall classically lit up a room; the 55-year-old Carty is classically Canadian. Though he has an affable, Jimmy Stewart manner--even a bit of a Jimmy Stewart look--the Montreal native is more reserved. Crandall spewed ideas and vision; Carty is competent but not prescient. Other than buying TWA earlier this year, he's probably best known for giving passengers more legroom. He has undertaken one massive mission: trying to create a kinder, gentler corporate culture--a culture that on Crandall's watch could essentially be defined as "my way or the runway." But changing AA, says veteran flight attendant Elaine Barber, "is like trying to turn around a ten-mile-long freight train."

That's a fairly good description of what hit the company Sept. 11. Airline people are great at crises; they respond to the unexpected every day. But in American's emergency command center--which overlooks a vast floor of dispatchers, flight coordinators, and other operations specialists--executives realized that their usual responses had become inoperative. Their "go" teams, which normally assist NTSB investigators, couldn't get to the crash sites, which were cordoned-off crime scenes. Their "care" teams, which normally fly to the aid of victims' families, couldn't fly anywhere because of the FAA's flight ban. "We have manuals and we run exercises, but this was so horrific that there was a shock factor and disbelief," says Bob Baker, AA's vice chairman and operations sage. "We had to get everyone off the ceiling." Then they had to hit the ground running to put their broken airline back together.

American's complex logistics were in disarray. After the travel ban, its planes had set down randomly all over the world. In the U.S., many crews weren't in the usual company hotels, or if they were, they got restive after a couple of days and rented cars to drive home. At remote airfields in Canada, where 22 American flights landed, employees and passengers bunked in churches, schools, and homes. In Fort Worth, American drew in employees from all departments to establish contact with crews and determine their needs. The headquarters staff provided stranded employees with prescriptions, money, and, crucially, emotional support. American contracted with United Behavioral Health, a mental health network, to deploy 100 therapists to wherever crews were staying.

The can-do spirit ruled. Within two days it was clear that American needed a hot line dedicated to answering crews' security questions. Jane Allen, the vice president who oversees flight attendants, approached her aide Patrick O'Keeffe to ask if he could staff a phone bank in six hours. "Sure," he said, and he did.

For a while the crisis obscured the divisions between management and labor, which have been deep. In a country where only 13% of the work force is unionized, airlines are a throwback. American is 60% unionized and 100% Balkanized, with pilots, flight attendants, and mechanics regularly battling management, whose persona was the volcanic Crandall. The man known as "Fang" routinely tore apart executives who had displeased him. But the tyrannical style that intimidated managers infuriated labor leaders. Each contract negotiation was a confrontation, with such nasty results as a 1993 Thanksgiving-week strike by flight attendants.

In labor's eyes the problems have continued under Carty. When he acquired Reno Air in 1999, American's pilot union protested the handling of seniority with an 11-day sickout. A federal judge stepped in and fined the union $45 million. American barely averted a walkout by flight attendants this past June, agreeing on a contract just hours before a strike deadline and only after long, acrimonious negotiations. (Uniformed flight attendants picketed AMR's annual meeting in May, carrying signs like WARNING: TOXIC LABOR RELATIONS.) Leaders of the Association of Professional Flight Attendants (APFA) were set to ratify the contract on Sept. 12.

Instead they began working side by side with management. APFA augmented American's phone banks and counseling resources with its own. APFA reps were in the command center and on key conference calls. In Boston, management and union reps set up joint headquarters at the Hilton to attend to employees' needs. "The walls that existed on this local level seemed to just crumble," recalls Aurigemma, who has been active in union affairs. "We cried together; we comforted each other; we had wine when we could."

American set up yet another phone bank, calling flight attendants to ask if they'd be able to work once operations resumed. The tremulous reply from 3,500 was no; they were too shaken. Using a special computer code, the company informed the crews' schedulers that the flight attendants were unavailable to work. Each was guaranteed pay through September and given a therapist referral. American's Jane Allen says the flight attendant's union bent its rules to help the airline. "The APFA said, 'Open up the stops. We'll let people on vacation fly; we'll let part-time people fly; we'll allow people to pick up trips that the contract wouldn't normally allow.' They gave us tremendous flexibility. It turned out there were a ton of people who wanted to fly. They refused to be cowed by terrorism. They knew the company was hemorrhaging. This whole cadre of flight attendants called and said, 'Send me anywhere.' "

American's management began making Mach-speed decisions. Flight schedulers normally take months to create a schedule that goes 18 months out, relying on such indicators as projected GDP, industry capacity, and passenger demand. On Sept. 8, they had completed a schedule for American through March of 2003. On Sept. 11, they tore it up and began jerry-rigging a new one, knowing, says chief planner Walter Aue, that "life wasn't going to be the same, but not knowing how deep the cuts needed to be." Aue (pronounced OW-ee) and his staff worked until 3 A.M., when their eyes were as crossed as their route-system maps. But they had a new schedule with 12.5% less capacity.

When the first American jets finally left the Dallas-Fort Worth Airport on the morning of Sept. 14, employees cheered. But by 4 P.M. the operations-center crew was deflated. Many American flights had to be canceled or delayed because not all airports had opened, and not all planes and crews had really been poised to go. After conferring with managers who monitor American's crews and planes, flight operations chief Gerard Arpey called Carty to advise cutting the schedule further. "Those guys can feel it in their gut when it ain't getting better," says Arpey. Aue's crew went back to work, whacking out more flights and whittling down American's schedule to 60% of the pre-Sept. 11 level. The company now offers about 80% of the flights it once did, but only after two dozen more schedule changes. Forget the 18-month planning cycle, says Aue: "It's 18 days."

American's relaunch, ragged as it was, continued to bring out the best in people. The FAA required airports to increase security at metal detectors and boarding gates, but there was no way American could outsource the jobs immediately. So its own people rushed into the breach. "It was all hands on deck," recalls Dan Garton, chief of airport operations. "There were clerical employees, fleet service clerks, agents, pilots. Someone asked me, 'Who's doing the wanding?' I answered, 'Anybody who can fog a mirror.' "

Late one afternoon in Tulsa, executives at AA's maintenance base summoned a team of machinists and engineers to a conference room. They told the team the airline needed help in allaying the security qualms of fearful pilots and passengers. The team was asked to develop a bar for the cockpit door--and do it by the next morning. The engineers immediately began sketching designs. The shop guys critiqued them. By early evening they had agreed on a device that could hang inside the cockpit and swing from a hinge across the door. They scattered through the cavernous facility, scrounging for parts, keeping one another apprised by cell phone. By the wee hours they had installed and tested a prototype. "We tried to beat the door down," says engineer Donya Campbell-Peek. They couldn't.

No amount of heroics could stanch the financial crisis at American. Before the attacks the company had been working on its biggest financing ever--a so-called enhanced equipment trust certificate (EETC) that enables airlines to raise money secured by their planes. Instead of closing on Sept. 11, the $2 billion deal was scuttled. Says CFO Horton, who had worked six weeks on the financing: "We were faced with the double whammy of having our chief liquidity source vaporize at the same time that our revenues disappeared."

For some time now American has had the second-best balance sheet in the industry, after Southwest's. But its $1 billion cash hoard soon seemed skimpy. Between losing $70 million a day while grounded and forecasting sparsely populated planes once flying, American figured its cash would be gone in about a month. Horton went right to work, drawing down $820 million of a $1 billion credit line on Sept. 12. Even that was fraught with difficulty because the attacks had crippled the transaction capabilities of some of the loan syndicate's New York banks. Citibank had to front the whole amount temporarily. Other executives worked out 30-day payment deferrals with key suppliers. Horton later revived the EETC for $1.6 billion, on less favorable terms.

Along with the rest of the industry, American also turned to Uncle Sam. Carty chairs the executive committee of the American Transport Association, the industry trade group that lobbied Congress for a quick bailout (for more on the bailout, see box). When Congress appropriated $5 billion in cash, American collected a first installment of $450 million. That helped Horton build American's cash to $2.3 billion by Sept. 30. But with the daily burn rate still at $30 million, the airline remained in dire straits. Even Horton's 8-year-old son recognized it. The third-grader receives a $3 allowance each Sunday before church. He puts $1 in the collection plate and gets to keep the rest. After the priest's eloquent plea one week on behalf of the Red Cross, the boy put $2 in the plate. Then he gave the other dollar to his father. "Daddy," he said, "that's for American Airlines." Tom Horton wept.

As revenues fell steeply, American executives knew that layoffs were inevitable. They didn't want to overshoot by furloughing huge numbers of people and having to hire many right back. But what they decided on was nonetheless drastic--20% of the work force, or about 20,000 people. "It was a little more than a guess and a little less than an estimate," says Carty. "I don't think we'll know for another four or five months whether we should have cut further or we should have cut less. But we realized we had to move quickly."

American took some steps to mitigate the impact. It gave flight attendants the option of taking six-month leaves with benefits. Enough of them did so (about 2,700) that only 1,200 were laid off, 1,000 of whom were probationary new hires. The company furloughed ticket agents and other airport workers, then rehired some of them for the approximately 1,000 new security jobs. By disallowing overtime for mechanics and reducing pilots' monthly hours, American further spared some people's jobs. It was nonetheless a painful task, made crueler by the Herculean tasks just performed by furloughed workers. In the operations center, where people had worked around the clock, "facing those employees was a nightmare," says Craig Parfitt, a top operations center manager.

Coping with the waves of emotion that kept washing over the company was even tougher than reviving the business, according to marketing chief Mike Gunn, who has one of toughest jobs in the company--trying to make flying appealing again. He was to be first speaker at a memorial service for Dallas-Fort Worth employees, but when a choir of 7-year-olds preceded him, singing "God Bless America," he could hardly summon the words. American's executives found any number of pressure-release valves. Gunn watched the patriotic ceremonies before the baseball playoffs and World Series games, misty-eyed each time. Carty's 2-year-old son was "my rock," he says--the one person in the CEO's life with no notion of the world's evil or his dad's business peril.

A group of American and United Airlines employees decided to organize a flag relay from Boston to Los Angeles to honor the people who'd never completed that journey on Sept. 11. The flag-across- America run particularly appealed to AA pilot Gary Boettcher. He used to work with Captain Charles Burlingame, whose flight 77 crashed into the Pentagon. Boettcher, an American pilot for 16 years, had been unable to fly since Sept. 11, but he threw himself into the flag relay, becoming its Virginia coordinator. From the moment Old Glory entered Virginia, crowds cheered its bearers and loped along with them: children with home-made flags, a team of Fredericksburg cross-country runners, 30 people on a country road between midnight and 4 A.M. Boettcher, normally a two-mile jogger, ran the flag the last 15 miles to the North Carolina border. "It was great therapy," he says. "After that I came to grips with things."

Although Boettcher resumed flying in November, he's still jittery about security. He's worried that American is not doing enough to assure the safety of passengers and crews, a sentiment widely shared by colleagues. "The company says our revenues are decreasing, that we need to cut costs," says John Darrah, president of AA's pilots union. "Well, cost isn't the issue. The issue is that our revenue has dropped tremendously because customers have lost confidence in the security of the aviation system. Until they believe it's safe to come to the airport, we're not going to come out the back side of this."

That is the sound of the curtain falling on the short era of good feeling between labor and management. All three of AA's major unions are filing grievances over the furloughs. They maintain that American improperly invoked force majeure provisions that allow a company to ignore no-furlough or notification provisions under dire circumstances. Carty also offended union leaders by giving them just one quick briefing on finances and furloughs, then excusing himself to catch a plane for Washington. Says Darrah: "We have a culture in which there's no dialogue with upper management, and by that I mean Mr. Carty." Without question, Carty is a reserved man, and that limits his inspiration quotient as CEO. He makes no apologies. "This can't be about me," he says. "If the culture change is about Don Carty's approachability, we haven't made a cultural change."

In the executive ranks, at least, there is plenty of dialogue, more so all the time. Each Tuesday, Carty convenes his executive committee to go over "the scorecard." Senior staffers examine the burn rate (now between $10 million and $15 million a day), get cost-cutting progress reports from the past week, and suggest line items subject to further reduction. This involves matters as large as jets (AA will reduce 2002 capital spending nearly 40% by deferring delivery of 36 Boeing planes) and as small as caviar (the company will save $1.5 million by not serving it on transatlantic flights). Managers often don't wait for Tuesdays to act. "There's a lot more on-the-fly decision-making," says Horton. "If a decision needs to be made between finance and marketing, Mike Gunn's in my office in three minutes. We've done away with a lot of the process, protocol, and bureaucracy in favor of just getting it done."

This is not altogether a hunkering-down exercise. Although American has cut its 2002 technology budget, it will still spend generously to develop a smart card for frequent fliers. Such passengers--listen up, business travelers--would be identified by thumbprint and/or other secure means and be given express passage through checkpoints. American also continues to spend heavily on customer surveys, which give it vital feedback on how travelers view its problems. After the crash of flight 587, AA got a comforting reading: It would take only a temporary hit. That's just what happened, and passenger bookings resumed a slow climb. Traffic is far from robust but not far from the breakeven point.

Keeping workers pulling together, and pulling hard for the company, is as big a challenge for American as getting passengers back on its planes. The company is investing in new Websites for employees. One site provides information about outside job opportunities to recently furloughed workers and enables them to stay abreast of developments at the company. Another, called Jetnet, gives present employees access to pay, benefits, free travel opportunities, and other data. The problem is that so many people are emotionally wrung out, fearful of losing their jobs, and ambivalent about management. Colleen Brenner has been an AA flight attendant for 39 years. On the one hand, she says, "American is right up there with apple pie, Coca-Cola, and the things that represent this country." On the other, she fears it is exaggerating its financial woes to win worker concessions. She resented Carty's American Heroes program, which encouraged employees to take pay cuts to support the company. "We'd be back where we started," says Brenner, referring to the recent "hard-won gains" in the flight attendants' contract.

At some level, Carty knows of the disconnect. He has instructed everyone from top executives to line managers to go into the field, give information and encouragement to the troops, and keep them engaged. He himself went on Larry King Live. "The esprit is still there, but also a numbness," says vice president for employee relations Jeff Brundage. "This is a real leadership test."

It's far too soon to know whether Carty and his company will pass or fail. The CEO is balancing on a knife edge. American could ultimately throw aside its sorrows and its losses and emerge from this bleak time stronger than ever. Or it could be forever diminished, grudgingly handing out peanuts to passengers and employees. People used to say Crandall piloted American by seeing around corners. Carty will have to do so peering through clouds.

REPORTER ASSOCIATE Noshua Watson

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