How the Weeks Ahead Will Shape AMR In The Years To Come

The biggest story in the U.S. airline industry right now is, of course, American Airlines’ parent company seeking Chapter 11 bankruptcy protection. After a flurry of initial filings and some alterations at American Eagle, there hasn’t been a lot of movement from AMR.

The lack of news from it or the bankruptcy court probably has a lot of people - union leaders, media, employees, communities – wondering what is taking so long. That’s the first key to understanding this airline bankruptcy is different and why other airlines such as United, Delta and Southwest as well as the federal government and even regional carriers are keenly watching and waiting.

Unlike all the other airlines that have gone through Chapter 11, American doesn’t have a Debtor In Possession (DIP) lender breathing down its neck. That’s because the AMR board of directors made a strategic decision to file for bankruptcy with more than $4 billion in cash in the bank. That’s more cash than any airline that’s ever entered bankruptcy has had on hand and one of the highest totals in U.S. corporate history.

That gives AMR and American some flexibility to run its business during the initial period of exclusivity, protect its interests and, most importantly, time to ensure that its ultimate plan of reorganization (POR) is the very best it can be. While time is still of the essence to put forth a POR, it gives the debtor (AMR), time to look carefully at its network (mainline and regional partner), its labor contracts, its fleet and then make unhurried and potentially dramatic changes.

When United filed in December 2002, the DIP lenders and creditors demanded interim labor deals within 30 days, some even hammered out on Christmas Day. Delta and the Old US Airways faced similar pressures. As much as is possible in the bankruptcy process, American controls its own fate. It needs to use the time it has to get this right and make sure its labor costs and operations are where they need to be when it emerges. If it doesn’t, I don’t believe American in its current form gets a second chance.

A quick aside: This is usually when AA employees harrumph they gave millions in concessions to management in 2003 and that should balance what other airlines gained in bankruptcy court. I have the greatest respect for what American’s unionized employees tried to do back then, but it was apparent by 2006 those concessions weren’t enough. United, US Airways and Delta’s labor cost competitive advantage continues to pound American. The Airline Data Project (ADP) numbers show American’s employees get paid more, work less and have a range of benefits that are distant memories for peers at other airlines. That’s not an accusation; it’s simply the way the industry restructuring unfolded.

It’s also why all the other airlines, including venerated low-cost carrier Southwest Airlines, are nervously waiting to see what American looks like when it emerges from restructuring.  Following AMR’s Chapter 11 filing, Southwest CEO Gary Kelly posted an open letter to employees saying American, and the other major carries that went bankrupt, did so because of “high costs” and that “Great Customer Service cannot overcome high costs.”

I view Kelly’s letter as an important glimpse into what became American’s inevitable bankruptcy filing and what it means for the rest of the industry.

Kelly said he expected American to become leaner and warned, “If they do emerge from bankruptcy, as I believe they will, they will join the New United, New Delta, and New US Airways as giant, lower-cost airlines. They are, collectively, much more formidable competition than their predecessors. The term “Legacy Carrier” no longer will apply.”

In what had to be a stunning admission to most Southwest employees, Kelly also said, “We currently do not have a sufficient cost advantage to stimulate the market because our fares are much closer to our New Airline competitors.”  In effect, this is what I’ve been saying for years: the “Southwest Effect” is dying, if not dead.

If that’s the feeling in the executive suite at the most consistently profitable airline in aviation history, then I can only imagine how raw nerves must be at Delta, United and US Airways.

American’s filing is the airline industry’s version of “Freaky Friday” with role reversals that have long-term implications. Delta’s pilots are next up in negotiations and, like American did for the last several years, management will essentially be negotiating against itself. Remember, it was just within the last year plus that a significant number of Delta’s pilots began earning more than their colleagues at American… and that was with an infinitely more flexible scope clause that permits the higher pay at the mainline. Delta will be left negotiating improvements to the highest cost pilot contract in the industry knowing American will attempt to emerge from Chapter 11 with significantly improved scope and much lower costs. That’s essentially what American faced from Delta in 2007.

The recent NMB rulings upholding election results afford Delta only a temporary reprieve from unionization efforts. I can all but guarantee Delta will face additional organization campaigns, forcing it to, once again, spend millions to counter labor representation drives with no assurance it won’t be saddled with costly union contracts.

At the new United, the world’s largest airline might be facing world-class headaches. Integrating Continental pilots into the system is already shaping up to be a long, contentious fight, especially as many of Continental crew currently enjoy better pay rates than United peers. Continental flight attendants make considerably more per hour than their United counterparts. Those facts should not only make United’s future negotiations lively, but also mean it will likely have higher costs than a correctly restructured American.

It’s not just big brother that will garner all the scrutiny either. Eagle has already shed leases and announced potential layoffs. When AMR exits restructuring, the once-for-sale Eagle could look completely different and potentially pose real competition to SkyWest, Republic and the apparently spiraling-toward-Chapter-11 itself, Pinnacle Airlines. With American’s fleet purchase plans and a revamped Eagle, momentous change is potentially in the offing for regional airlines as well. I’ll have more on that at a later date.

As I outlined in my last post, American’s payroll is proportionately out of whack compared to its major competitors. A quick glance at the ADP numbers shows every carrier that’s gone into bankruptcy since 2002 has seen a double-digit reduction in workforce within one year of filing. That doesn’t include the nearly 25,000 jobs Delta shed in the four years prior to going into bankruptcy. Those statistics are small comfort to the employees at American who will likely lose jobs, but there is no disguising the pain this type of necessary transformation causes.

Layoffs will get the bulk of the media and general public’s attention, obscuring changes – scope, productivity, benefits – that will have more far-reaching effects. An American that comes out of Chapter 11 with significant changes in those areas potentially sends tsunami-sized ripples through the industry – particularly the flying within the U.S. domestic industry.

Yet the federal government, industry observers and, likely, the media, will spend considerably more time and hand-wringing on another hot button issue: pensions.

Pension Benefit Guaranty Corporation (PBGC) Director Josh Gotbaum has been very vocal about what he thinks AMR should do with its industry-leading pension plans. In short, he doesn’t want them to become PBGC’s problem. Gotbaum is also very quick to point out the additional burden AMR’s pensions could add to the $26 billion deficit the PBGC currently faces.

A couple of things strike me about the pension issue. Gotbaum has questioned American’s commitment to employees, which I find a bit wrongheaded since the airline spent eight years in a good faith effort to keep its pension obligations off the PBGC rolls. 

Gotbaum said American Airlines employees could lose one billion dollars in pension benefits if the airline terminates plans. That’s a bit misleading as all of the carrier’s employee pension plans are not created equally.

Like employees at the other bankrupt airlines, the majority of employees at American will most probably get their pension benefits in full. In 2012, the maximum PBGC payout is going to be more than $55,000 for those who retire at age 65. That’s more currently than the average American ground worker and flight attendant makes. The pensions really at risk will be those of the people who can most afford it – management and pilots. The bottom line is if American terminates its plans, the PBGC will do what it was designed to do: protect the investments of the working class.

AMR’s bankruptcy process will likely dominate the airline industry’s financial and economic headlines in 2012. What happens in the next few weeks and months as the new American (and Eagle) takes shape, though, will be felt by employees, competitors and taxpayers for years to come.

More to come.