TCG Comments Regarding Airline Industry News Reports

By Barry Rogers, Partner / Director of Air Practice

As anyone who is even remotely involved in the travel industry knows, AMR Corporation, the parent of American Airlines and American Eagle, entered into Chapter 11 bankruptcy reorganization in late November, 2011.

Quite a bit has been written about this in the industry, financial and mainstream press. Much of it has been based on rumor and speculation, but that doesn’t mean there isn’t a fair amount of truth or insight into what is likely to happen with American over the next 12 to 18 months. As such, we add our two cents.

One of the big questions has been whether American will merge with another carrier. Both US Airways (nominally part of Star Alliance) and Delta Air Lines (a key part of SkyTeam as well as a joint venture with Air France, KLM and Alitalia) have been reported to have expressed interest in acquiring all or part of American. On the other hand, American has often expressed an interest in tying up a relationship with Alaska Airlines in order to supplement its domestic route structure, particularly on the west coast. Despite its previous merger with Reno Air and erstwhile hub in San Jose, American lags behind United and Delta in this region.

For some time, we have felt that a tie-up between US Airways and American makes a certain amount of sense – at least at a macro level. Both carriers have been left behind by the mergers and growth of United-Continental and Delta-Northwest. US Airways and American bring a degree of value to each other. US Airways brings additional domestic capacity to help feed American’s international routes and American brings a very strong Latin American network based on its hubs in Dallas / Fort Worth and Miami, as well as service to Asia, which US Airways completely lacks. US Airways also has its Charlotte hub, with a large amount of financial services business, that complement’s American and British Airways strength in the New York and London markets. As those who have been in the industry for a while will recall, US Airways and British Airways used to be joined at the hip, with British having previously held a significant ownership position in US Airways. It’s one of the reasons that US Airways lacks a competitive international route structure (they were relying on feeding the British Airways flights), and certain synergies still remain, such as British Airways’ service out of Philadelphia. Of course, as Mies van der Rohe is quoted to have said, “God is in the detail(s).”

There has also been speculation recently that Delta might be interested in acquiring US Airways, certainly an ironic turn after US Airways hostile takeover attempt at Delta several years ago. Acquiring US Airways would have several advantages for Delta. These include eliminating a primary competitor in the Northeast shuttle market (though we expect that such a merger would require US Airways to sell that separately, most likely to either American or United) as well as picking up the Washington DC hub that US Airways is establishing as a result of the slot swap for which the two airlines received approval for last year. But probably the biggest aspect of a Delta acquisition of US Airways would be to keep it out of American’s hands. Probably the biggest question facing any potential merger or acquisition is that of receiving the necessary approvals, from regulatory authorities in the US, Europe and elsewhere and from the bankruptcy administrators and creditors committee that are overseeing AMR’s reorganization. We believe the disruption to the Alliance and Joint Venture landscape that would be caused by a Delta acquisition makes approval extremely unlikely. A tie-up with US Airways, which is part of Star Alliance, but which sits in the shadow of much-larger United Airlines, and that essentially results in its melding into oneworld is much more likely to receive those approvals.

As has been reported, AMR went into bankruptcy with over $4.1 billion in cash. This, combined with renegotiated aircraft leases, labor contracts and pension obligations, as well as the elimination of unprofitable routes, and the ability to generate additional cash through the spinoff of American Eagle, puts them in a position to be much more selective about what a restructured airline will look like.

Separate and apart from the merger speculation, some have discussed American’s “need” to reduce the number of hubs it maintains in North America, pointing specifically to Chicago and Los Angeles, where it competes head-to-head with United Airlines, driving fares down. While American has abandoned Chicago service to Moscow and, recently, New Delhi, it still maintains significant capacity to Beijing, Shanghai, Tokyo, Manchester, London and Paris, in addition to Canada, Mexico and the Caribbean. Ceding all of these destinations to competitors, or dropping the feeder service to its JBA and oneworld partners would be a very tough decision to make. Rather, we think American will do everything within its power to maintain, and even expand these hubs. Overall, the combination of New York, Miami, Chicago, Dallas / Fort Worth and Los Angeles puts the airline in a very strong position to feed business from throughout the United States to all points around the globe.

Ultimately, we think that the most likely scenario is that American will come out of Chapter 11 largely intact with financial assistance from British Airways and Japan Airlines. We think the possibility of the airline acquiring Alaska Airlines and/or US Airways is very real. We think it is likely to maintain its existing hubs and, by continuing to bolster its service into Latin American and tightening its JBA relationships, American will eventually regain its once-held top-tier status within the industry – an industry that looks very different than it did just a few years ago.

TCG Comments Regarding Airline Industry News Reports

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