What to Expect of the American Airlines Bankruptcy

Legacy airlines face high pension costs and tough competition from their budget counterparts.

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Thomas C. Lawton is a visiting professor at Dartmouth's Tuck School of Business.

It was only a matter of time before American Airlines entered Chapter 11 bankruptcy.

AMR Corp, parent company of the once mighty U.S airline, filed for Chapter 11 protection in late November 2011. In doing so, it followed most other U.S. network carriers down a path to buying some breathing space from creditors and undertaking painful corporate restructuring. AMR had few options remaining. Losing $10 billion since 2001 and struggling to compete with rivals that had already cut costs during Chapter 11, the company chose to seek legal cover to reorganize. This could result in the loss of 13,000 jobs (20 percent of the workforce) and will involve protracted negotiations with trade unions to end its traditionally generous pension plans. Huge pension costs are an ongoing problem in the industry, both in the United States and Europe. As with auto manufacturing, air transport is highly unionized and workers have been long used to generous retirement benefits. This was sustainable in a world without budget airlines, global competition and price conscious air travelers. But the landscape has shifted and legacy airlines are scrambling to catch up with new realities. Cutting cost in a geographically dispersed, highly unionized, people-centric service industry is never easy. AMR needs to achieve $1.25 billion annually in employee cost savings if it is to emerge from Chapter 11. Overall, it needs to improve its results by $3 billion annually if it is to regain competitiveness.

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Assuming that AMR can deliver on these results—a big question—what's next for the world's fourth largest airline? All U.S. legacy carriers have struggled in recent years to formulate and implement new corporate strategies in response to changing competitive dynamics, an ailing domestic economy and high fuel prices. Their response has been consolidation: create scale efficiencies and route and fleet rationalization through merging with competitors. Seismic shifts have occurred as United Airlines has merged with Continental Airlines, and Delta has bought Northwest. Similar patterns have emerged in Europe as KLM merged with Air France and British Airways and Iberia came together to form International Airlines Group. American Airlines is late to the party and few prospective partners remain. U.S. Airways is the best prospect—after going through two Chapter 11 filings in the last decade and posting a $71 million net profit last year. It's not ideal, but few options remain. AMR, like its network airline peers, has run out of choices and seems lacking in new ideas. Until they get their costs and debt under control, they will strategically remain on the back foot as budget rivals and global competitors soar to new heights.

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