Aviation News

November 30, 2011

American’s Bankruptcy Miracle

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Written by: Edward Russell
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American Airlines’ bankruptcy is good business. Every other US legacy carrier has successfully restructured its costs in chapter 11 and it has long been obvious that, short of a miraculous reduction in its labor and debt costs and an increase in revenue, the AMR-owned carrier needed to as well.

American Airlines 757 N645AA

“Our very substantial cost disadvantage compared to our larger competitors, all of which restructured their costs and debt in chapter 11, became increasingly untenable,” said Tom Horton, who took over as chief executive and chairman of AMR from Gerard Arpey on Tuesday, in a recorded message to investors. The airline cited its labor costs and debt burden in its bankruptcy filing the same day.

The filing was unexpected but not a surprise. The failure of contract negotiations with American’s pilots earlier this month and a $982 million loss during the first nine months of the year – the latter occurred while other legacy airlines posted profits – prompted renewed rumours of a filing. Its labor costs were about $800 million more than other legacy carriers and outstanding debt was $29.6 billion on $24.7 billion in assets at the end of September, the latter according to the bankruptcy filing.

Will Randow, an analyst at Citi who covers AMR, said the timing of the bankruptcy was “unforeseen” but that the probability had existed, in a report. He cited his previous conclusion that the airline was the “most highly levered US legacy” and that it had not produced a return on its existing assets during the past decade. And its massive 460 aircraft order with Airbus and Boeing this past June that was supposed to save the carrier? “Far from prudent.”

Lower revenue numbers and a less productive labor force also contributed to the sudden filing. The Wall Street Journal’s Scott McCartney reported that Delta Air Lines collected 12% more revenue per seat flown and spent 6% less to fly each seat mile than American in the third quarter. United Airlines reported similar numbers. NPR Planet Money’s Caitlin Kinney points out that it is not just the cost of labor that is an issue but also their productivity.

“If you look at what low cost carriers do that is different, they get much higher productivity out of their workers,” Severin Borenstein, an economist at UC Berkley who studies the airline industry, told Kinney. “The jobs are defined more broadly. The workers tend to cover more of the work load.”

Restructuring is critical to American’s very survival. Short of its unions and lenders coming to the table and voluntarily offering significant reductions in wages, benefits and interest rates, bankruptcy was the only viable card left for it to play in order to achieve the savings it needs to keep flying. For sure, employees will not be happy when they lose some of their benefits or pensions shift from defined benefit to more variable plans but at least they will have an airline to keep working for if they wish to do so and a pension to retire with. It is definitely better than nothing (as has happened when airlines have gone belly up in years past).

Delta, Northwest Airlines, United and US Airways all successfully restructured their costs under chapter 11 bankruptcy protection and emerged more nimble. This included removing scope clauses on contract carriers flying larger regional jets, which is an issue at American who would like its regional affiliates to be able to fly more small jets with a capacity greater than 50 seats than the current 47 Bombardier CRJ-700s in American Eagle’s fleet. As part of the bankruptcy process or shortly thereafter, all of the aforementioned carriers merged with themselves (Delta/Northwest) or with others (United/Continental Airlines and US Airways/America West Airlines) to become more formidable competitors. This is quite likely next for American.

“If American went into bankruptcy, it’s a given, US Airways would be there,” Mike Flores, president of the US Airways chapter of the Association of Flight Attendants, told TheStreet.com in May. A merger between American and US Airways has long been discussed by industry participants to the point that Arpey publicly denied the speculation in June 2010.

How such a merger would play out would be interesting. It is hard to say who would make the opening salvo but, if a deal was closed, a likely result could be a Tempe, Arizona-based American. What the combined airline’s route network would look like is another question. American’s hubs at Chicago O’Hare, Dallas/Ft. Worth, Los Angeles, Miami and New York JFK are likely safe due to the sheer size of their respective markets and strong international traffic but it is unclear how Charlotte, Philadelphia, Phoenix and Washington National fit in to the new carrier.

Charlotte would be a good south-eastern hub, though its expanding Latin American network would probably shift to Miami, and counter to Delta’s Atlanta and National is an undeniable strong point for high-revenue originating and departing business travellers out of the DC area. Phoenix does little that Dallas/Ft. Worth and Los Angeles do not already do in terms of connections and Philadelphia faces the same problem with New York and Washington. However, a complete exit from these hubs is hard to imagine as well.

American will shrink in the meantime. Dan Webbage, on his blog Things in the Sky, noted that the the airline plans to accelerate its fleet renewal, in a letter to suppliers from Airbus and Boeing, in a letter to suppliers. Where these schedule changes will occur is unknown but some of the smaller markets the airline has entered recently, for example Watertown, New York, and Charlottesville, Virginia, are likely to take a hit.

American as we know it will change. But that change, one can hope, will be for the better – maybe with premium economy and audio video on demand in each aircraft. One can only hope.

Edward Russell is a financial journalist and airline enthusiast based in New York. The son of a pilot, he’s been spotting and collecting airline memorabilia since a young age and has been writing about airlines in the US and Asia since 2006. Follow him on Twitter @e_russell.

About the Author

Edward Russell



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