American Airlines Files Bankruptcy…is anyone surprised?

American Airlines was founded in 1934 and has long been America’s premier flagship airline. … or so Page 3, Section I, item 5 says in AMR’s bankruptcy filing that was submitted to U.S. Bankruptcy Court, in the Southern District of New York this morning.

 

In fact American Airlines was founded in 1930 as American Airways, Inc. and was later renamed American Airlines in 1934. The airline’s decreasing route map, friction with labour and increasing financial woes have seen the airline fall from being seen as a premier flagship airline for a brief period of time between the fall of Pan Am and the rise of  Delta Air Lines and United Airlines substantially expanding their global presences.

 

Factual error and corporate conjecture aside, American Airlines has been in trouble for a long time. The 92 page bankruptcy filing by American Airlines’ parent company AMR details the company’s financial problems, many blatantly obvious, as its authors weave through a menagerie corporate errors, external factors, competitors emerging from bankruptcy the 1978 Airline Deregulation Act, labour costs, operating expenses and fleet issues.  Bankruptcy for an airline in the United States is however not the end … generally it is far from it.

 

In the past decade all of American Airlines’ legacy carrier competitors have entered into Chapter 11 Bankruptcy and all have emerged as stronger airlines.  In an unusual passage on Page 7, Item 19 of AMR’s bankruptcy filing the company pats itself on the back by stating “AMR has been the only major network carrier that has not sought the relief afforded by chapter 11 to restructure operating costs and liabilities.”   This passage is unusual in that it appears in the very document AMR submitted to a U.S Federal Court to file for bankruptcy protection.

 

AMR’s direct commentary on its competitors filing bankruptcy, in its own bankruptcy filing, goes on to state, “As a result of their chapter 11 restructurings, AMR’s major network competitors have each been able to return to profitability. Each of these competitors achieved this financial performance despite the impact of the major economic downturn and despite the dramatic increase in the price, and price volatility, of jet fuel,” on Page 8, Item 20.   Item 21 of the document goes on to say, “AMR long ago learned, through bitter experience, that if it does not match competitors’ fares on a route, it will lose customers to the lower priced carrier. Thus, experience has taught AMR that having higher prices results in lower revenues, rather than higher revenues. That leads to a fundamental point of basic economics: Where intense price competition prevails in a marketplace, the key to profitability is a competitive cost structure. Since their restructurings in chapter 11, AMR’s major network competitors all have lower costs than AMR. “

 

Much of AMR’s first dozen pages, includes personal information about the company’s Chief Financial Officer, Isabella Goren, her experience with American Airlines, the airlines’ history, its domestic, international and regional operations, as well as placing the blame for its current financial situation on others, while failing to directly address its own management and business short comings.   While no company ever wants to take full responsibility for any financial crisis they may find themselves in, and no one is stating American Airlines did not have external factors, the airline is where it is because when a life line was extended to it, along with all of its competitors it failed to grasp that rescue rope.

 

American Airlines’ refusal to enter into bankruptcy protection,  following the downturn in the industry following the September 11 2001 terrorist attacks on the United States, which involved their aircraft, allowed its competitors to shed costs, reorganize, finance new aircraft, develop newer hard and soft products and rebuild their brands. While American Airline’s competitors reemerged, American Airlines stood as the hard nose stoic using its refusal to file for bankruptcy protection as a marketing hook. The problem with American Airlines refusing the opportunities offered to it, is that now instead of being a leader of the pack it is at the end of the line fighting for its life … and lives of its 88,000 employees and those who indirectly derive their livelihood from American Airlines hang in the balance.

 

So what is on the horizon for American Airlines? The road to restructuring, a reorganizing of debts and contracts and a whole new fleet, that the airline has the potential to own. Presently AMR’s American Airlines fleet of 615 mainline aircraft and 280 American Eagle aircraft are financed through operating leases, publicly-issued secured debt instruments, capital leases and private bank mortgages, leaving the carrier unable to leverage its fleet for liquid capital.

 

In late July 2011 American Airlines inked deals with both Boeing and Airbus to overhaul its entire narrow body fleet. These deals, worth US$13,000,000,000, are for 200 Boeing 737s and 260 Airbus A320 family aircraft. Deliveries of these aircraft are scheduled from 2013 to 2022, along with options to purchase an additional 465 aircraft before 2025.

 

At the time American Airlines inked its Airbus and Boeing contracts major cracks in its finances began to appear. On the day the AMR announced its epic narrow body order, it released its 2011 Q2 financial statement showing a net loss of US$286,000,000, compared to its 2010 Q2 net loss of ‘only’ US$11,000,000.  American Airlines worked feverishly to sign its aircraft orders and get it’s financing deals in order prior to the disclosure of its 2011 Q2 financial results, as well as ensuring the ink had dried on the contracts ahead of its bankruptcy, allowing it to move forward in overhauling its fleet.

 

Normally when an airline enters into Chapter 11 Bankruptcy the carrier ceases to purchase aircraft, stops all significant purchases and focuses on pairing-down rather than beefing up. AMR’s strategy for American Airlines’ bankruptcy is quite different. AMR’s bankruptcy filing addresses this directly, in an attempt to have the court allow it to go ahead with its US$13-billion fleet acquisition from Boeing and Airbus.

 

Item 13 in the bankruptcy filing, titled Future Aircraft Acquisition, states, “As part of its continuing development of foundational building blocks for a successful future, AMR recently reached innovative and industry-leading agreements with Boeing and Airbus that will enable the Company within five years to operate the youngest and most efficient fleet among its U.S. competitors. Under these agreements, American Airlines expects to acquire 460 narrow body aircraft beginning during the period 2013-2022. These agreements represent a major foundation for AMR’s future. Included in the entire package of acquisition agreements is $13 billion of committed financing from the aircraft manufacturers. The acquisitions will allow the lowering of costs and greater flexibility to capitalize fully on the network. “

 

The way AMR has this single passage seemingly buried, like a teenager glossing over “oh, by the way I totaled the car last night, but the on the positive side, no one is dead” after coming I at 3:00am, is interesting. A US$30-billion, 9-year aircraft acquisition period, is a huge portion of the airline’s financial future. While the airline needs to address more immediate needs, including operating costs, employee salary, benefits and retirement and fuel, this financial aspect of the airline’s bankruptcy is unusual. Aircraft purchases tend to occur after an airline emerges form bankruptcy, not a little over a year after the airline enters into bankruptcy.

 

American Airlines is eager to “accelerate [it’s] fleet renewal strategy” because the new aircraft will provide lower operating expenses for the airline, allowing the carrier to return less efficient leased aircraft to their lessors and park aging aircraft in the desert.  The question that arises her is, can the airline turn itself around enough in a year, reduce its operating costs and increasing its revenues to be able to begin accepting new aircraft and paying for new aircraft?

 

AMR is taking a gamble and is obviously hoping the US Bankruptcy Court of the Southern District of New York allows them to take that gamble. Nothing is in black and white until a judge decides what is in black and what.

 

What does American Airline having going for it that is likely to sway a court to allow AMR to continue with its US$30-billion aircraft acquisition?   The fate of not only more than 88,000 American Airlines employees, but also the revue being pumped into Boeing for manufacturing and maintenance over the lifespan of the aircraft and the same revenue being pumped into Airbus. While Airbus is a European company, many of its aircraft parts come from the United States and Airbus keeps US taxpayers employed.  Keeping people employed and economies flowing on such a large scale is a significant factor.

 

The airline makes its aircraft financial obligations clear stating “to conserve our liquidity, subject to the requirements of the U.S. Bankruptcy Code, during the 60-day Section 1110 period, we plan to make payments when due of aircraft rent and mortgage principal and interest payments only on certain aircraft in our fleets.”

 

For those wondering if American Airlines’ 2007 US$900,000,000 sale of AAdvantage miles to Citibank to gain liquidity might resurface during the airline’s bankruptcy proceedings, in fact … it does.  On Page 16, Item 41,  some interesting information regarding the AAdvantage – Citibank arrangement appears, “Under the Citibank Arrangement, Citibank was granted a first-priority lien on certain of AMR’s AAdvantage program assets, and a lien on certain of AMR’s Heathrow and Narita routes and slots that would be subordinated to any subsequent first lien. Commencing on December 31, 2011, AMR has the right to repurchase, without premium or penalty, any or all of the Advance Purchase Miles that have not been posted to Citibank cardholders’ accounts. AMR also is obligated, in certain circumstances, to repurchase all of the Advance Purchase Miles that have not been used by Citibank. “

 

Citibank has not yet disclosed how many AAdvantage miles have not been posted to Citibank cardholder accounts or what AMR’s financial obligation is to purchase these miles back.  AMR’s financial obligation to Citibank may put the company in the position of being forced to sell off its frequent flyer program … a valuable financial asset to the company.

 

 

… for those that saw the writing on the wall for American Airlines none of this is a surprise. Analysts who claim they didn’t foresee AMR filing bankruptcy for another year weren’t paying attention to the basic economics of an airline with virtually no assets to leverage, hemorrhaging cash and signing $30-billion contracts while headed towards a wall at full speed.

 

What happens now?  American Airlines’ new CEO, Thomas Horton, steps in, reassesses the landscape and rebuilds the airline.  Life will go on …

 

Happy Flying!

 

@flyingwithfish