American’s Problems Won’t Be Magically Solved By Merging With US Airways

Cranky Flier has a piece today where he answers a reader asking him whether he’s biased against American Airlines by basically saying no, he isn’t biased, American just does stupid things and needs a merger to save themselves. Go read the piece and decide whether a more correct, Straussian reading of his post is “Yes, I am biased against American.”

He begins with a shout-out to American’s achievements in the 1980s:

[T]hroughout the 1980s, American was a shining beacon of awesomeness. It had previously effectively invented the computerized reservation system. It was the first to really make a frequent flier program relevant. It perfected the hub and spoke system. And it successfully developed modern revenue management.

He cites several big errors made at the same time — acquisitions and hubs that didn’t work out — but dismisses those as the airline taking chances. More recent mistakes aren’t judged the same way because American is in bankruptcy, so the sum total of their efforts hasn’t worked out. And that’s fair, but American faces basically the same challenges as everyone else in the industry except that their competitors have all gone through bankruptcy first.

American pushed off bankruptcy, since they wound up there eventually not doing it earlier turns out to have been a mistake, they’ve been operating at a cost disadvantage compared to their competitors for several years. (They have revenue challenges too.) But they’re rectifying that now, and don’t seem to get credit for that.

I’m not sure how relevant it is to drag out mistakes like “More Room Throughout Coach” (extra legroom at every coach seat, since removed) from 2000 or the acquisition of TWA in 2001 as an indictment of the airline’s current management. Sure, current CEO Tom Horton worked at the airline in finance back then but he can hardly be pinned with those strategic errors, having only returned to the airline (from AT&T) in 2008.

The airline isn’t as strong as it should be in Chicago, Los Angeles, or New York. And Cranky faults the airline for failing to control the government in Miami to prevent massively expensive bad investments in the airline there (the costs at Miami are absurd, I sure wish they could have done better to control those, but if they had a comparative advantage in controlling public budgets there are folks across the Potomac from my home where I’d love to deploy them as well).

Thing is, similar pieces could be written on each of the major airlines, highlighting the mistakes and missed opportunities over at United, Delta, and US Airways over the past 15 years. There’s really nothing all that unique about American in this regard, although they’ve certainly made their share of strategic blunders and missteps.

Cranky Flier may not be biased against American but I do think he is biased in favor of a US Airways merger.

He says that a merger

will not only provide an excellent management team, but it will also give the airline added heft in the northeast and over to Europe. It will make the airline more competitive with United and Delta.

But will it?

American’s Europe flights have suffered from revenue challenges, those won’t be helped by a merger and US Airways’ Europe flights would suffer from the higher costs at the combined carrier that would come from the two airlines combining. Where American is weakest is Asia and a US Airways merger does nothing there.

I wonder just how good a management team US Airways has, they’ve done a good job at on-time performance and squeezing revenue out of a stone. But they’ve been willing to bid and possibly overbid for any airline that’s shown a little tail. Doug Parker, after acquiring US Airways for his own America West, at least twice tried to merge with United. He tried to merge with Delta as well. And now American is all that’s left that’s bigger than his own carrier, so they become the perfect strategic option whereas United and Delta seemed to him to be that before. The United merger reportedly fell apart once in the past only because Parker wasn’t going to get to run the combined airline.

Seven years into the US Airways – America West merger they haven’t managed to integrate the pilot groups of the two airlines. Perhaps an American merger would solve that, attempting to integrate three different pilot groups at once, by throwing money at the problem and raising costs across the board.

That Cranky is speculating on the private thoughts of American’s oneworld and joint business venture partner British Airways (that they agree with him!) tells me that he’s got a bias he’s not quite willing to admit to. He says that if they would merge he would be their biggest fan, which is to say that he has a bias towards his former employer American West-US Airways.

Mergers are expensive. They involve combining disparate workforces, in this case likely raising labor costs. They involve combining different IT platforms. They involve combining often incompatible airline fleets, increasing maintenance costs. There are huge marketing expenses, rebranding efforts, and massive distractions from other strategic priorities on the part of management groups.

Sometimes they help get rid of excess capacity in the industry, but that’s a benefit captured as much by the combined airline’s competitors as it is captured by the merger partners.

But most of the hoped-for ‘synergies’ that are supposed to ‘unleash revenue potential’ and ‘improve efficiency’ are hypothetical at best, and realized far less often than we tend to imagine. Mergers are hardly a panacea.

The theory of a merger here that I’ve seen frequently is that “US Airways has really good management” so they would take American’s assets and do a better job with them. But that hardly seems obvious at all.

Meanwhile, American has done a pretty good job during its bankruptcy at beginning to bring down its costs and paint a vision for a better product going forward with lie flat international seats, including on the premium New York-West Coast routes. They’re much farther along in technology than US Airways is — from inflight internet and power (Cranky gives American a hard time about its inflight power but they’re still far better here than US Airways is), to a functional website, a better corporate sales capability, and a better inflight product overall — the coming introduction of Main Cabin Extra (similar to United’s economy plus) helps here.

Meanwhile, the duplication between American and US Airways operations (Los Angeles vs. Phoenix, Philadelphia vs New York JFK in particular) makes the carriers a not-so-great combination. American probably can’t pick up Alaska Airlines, although that would be a better combination if they could (without overpaying). There’s been talk about JetBlue, though I think too many corporate blood gets shed going after dominance in New York where they’re in third place behind United (does Newark really count?) and Delta.

There aren’t a lot of dance partners left in the US market, but that just may mean it’s best to grow as a standalone airline.

I’m not so sure that American’s management believes that (but for their own biased reasons, I imagine they believe they should exit bankruptcy first before doing a deal). So I may be off on my own with this one! And given the sheer number of very smart people who disagree with me, I should probably write a post exploring my own biases. In the meantime I will just keep tilting at this windmill.

Update: Speaking of biases, let me make my own clear — I think that AAdvantage has the strongest top tier elite program, and that American’s inflight product is better than US Airways’. It’s not obvious either of those would change if Parker got hold of the airline.

I expect to benefit personally if US Airways and American merge, I live near Washington National airport which is heavily dominated by US Airways so porting my top tier benefits over to those routes would be incredibly valuable for my flying.

My strongest bias, though, is likely a belief that mergers rarely pan out as well as projected — so a case for a merger needs to be very clearly stated (what is the excess capacity of a capability that the acquiring company has, which when applied to the acquired company makes that company much more valuable) and discounted to consider risk or likelihood of achieving those possible gains.

In this case, it is US Airways shareholders that i expect to lose the most. Acquiring a higher cost airline, and porting those costs over to the existing operation, is a recipe for losing money on current operations. And I do not expect that cost to be outweighed by ‘synergies’ or ‘stronger route network’ (which could be built organically without taking on legacy costs to do so).

This qualifies as a bias in my analysis, but I believe it is a useful bias.

About Gary Leff

Gary Leff is one of the foremost experts in the field of miles, points, and frequent business travel - a topic he has covered since 2002. Co-founder of frequent flyer community InsideFlyer.com, emcee of the Freddie Awards, and named one of the "World's Top Travel Experts" by Conde' Nast Traveler (2010-Present) Gary has been a guest on most major news media, profiled in several top print publications, and published broadly on the topic of consumer loyalty. More About Gary »

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Comments

  1. Cranky is totally wrong re: USAir & American. American will make it out of bankruptcy and begin operating as a smaller but more financially stable company. Their future is to continue to build on their excellent service and routes into South American and let everyone else fight over Europe.

  2. I’ve been a fan of the merger rumor but the more I think about it US might be better off without American n the long run. Maybe a few smaller mergers with carriers like Alaska or Frontier would make more financial sense.

  3. My very first thought upon seeing Cranky’s post this morning was “I should write Gary the opposite email, namely, ‘why are you so positively biased towards American?'”

    Would love to see you expound on that more–it’s obvious you think they have the best FF program out there, but I have to wonder if that clouds your view of how the airline is managed as a whole (since I understand you don’t want AAdvantage to change, which could be put into jeopardy in a merger).

    On a side note, is AA really “much farther” along in the inflight wifi department than US? US has all their A321’s, and now most of the Embraer aircraft with wifi–the remaining fleet (319/320s) will be done a few months from now. I thought AA only had wifi on some of their 737s?

  4. “There’s been talk about JetBlue, though I think too many corporate blood gets shed going after dominance in New York where they’re in third place behind United (does Newark really count?) and Delta”

    Why shouldn’t Newark count?

  5. @Andrew the A321s are only about 31% *of their narrowbody AIrbus fleet* so that’s hardly widespread deployment of wifi. American doesn’t just have ‘some of the 737s’ with internet, it’s almost all of the 737s *and MD80s* and they have begun 757 installation. American doesn’t have as widespread wifi as Delta but has way more than US Airways.

    I do think American has the strongest top tier elite program of any airline by a pretty wide margin. I think they’re generally the best for international first class awards departing North America. They’re best for international upgrades. But I think that currently the overall best redemption program is United’s.

    I’ve written in the past, pretty fairly I think, what American does well and what they do not do very well. I’ll gladly take their inflight product over US Airways and also over United largely because of inflight internet (which United will eventually rectify). For domestic first class I do not think they are better than Delta, and for coach I do not think they are better than United (which has economy plus and even once American introduces Main Cabin Extra, United will have more coach rows with extra legroom).

  6. @Gary: Newark counts for NYC as much as Dulles counts for DC. (Which is to say, on a technicality)

    As for US-AA not being an ideal combination, Brett does mention that (he says the ideal combo would have been AA-NWA).

  7. @FT_Roy – I thought it was odd to say that American should have *paid more* for Northwest years ago, even if Northwest’s route network would have been a better fit that makes sense only at a certain price and not at *any* price. And ‘m not sure he’s right about that fit, the American’s Chicago hub is smack dab in the middle of the Northwest hubs of Minneapolis and Detroit. Chicago is 334 miles from Minneapolis and 235 miles from Detroit. You don’t make money overlying your own hubs.

    Northwest certainly had a certain dominion over cities in the upper Midwest, as one Northwest exec used to say (with a devilish laugh) “it’s cold, it’s dark, and nobody wants to go there… but they’re ALL OURS!”

    Northwest’s Asia routes, though, could have fit American nicely. Shut down the Memphis hub, shut down Detroit, operate Minneapolis to the Upper Midwest and Asia, and there’s a certain log to it (Detroit, given the dearth of high yield origin/destination traffic, probably no longer makes sense as a hub if starting from scratch).

  8. As a longtime American Airlines loyal customer, I’d probably not continue with them if they merged with US Airways. I’ve always perceived US Air to be an inferior product (maybe that’s changed), but I’d probably use up my remaining hoard of AAdvantage miles and re-evaluate my future loyalty.

  9. More of the same tired arguments with nothing of substance to back them up. The only viable merger partner for American is US Airways. It’s the only carrier that has the size necessary to allow American to compete with United and Delta. US Airways alone can fill the gaping holes in American’s network. Alaska and jetBlue are much too small and geographically limited to do that. The labor issues are red herrings. 150% of US Airways’ labor problem rests with its cry baby unions who demand bankruptcy inducing pay and benefits without the productivity enhancments needed to compete in the real post 9/11 airline world.

  10. @Desert ghost – the point is profitability not scale, American’s best path may not be becoming as big or bigger than United or Delta. The problem with US Airways’ unions might be solved with an American merger — by adopting much higher labor costs — that’s not clearly better for that airline’s profitability. From a US Airways shareholder perspective, buying a higher-cost airline and adopting that carrier’s costs may not be desirable.

  11. From my perspective, the biggest danger of an AA/US merger would be the end of American’s fantastic culture of customer service. Although I’ve never been a US elite, and don’t know any, I know a whole bunch of UA and Delta elites, and only UA GS members get customer service remotely like that I’ve been getting from American, even when I was only a Plat. I’ve flown US a fair bit (transatlantic, a great product on the A330s), and like them, but American is really exceptional on the CS end.

    I’ll go so far as to say that American is a close second to the best (big company) customer service organization I know of — American Express. It would really be a shame for that to be changed, and I fully expect that a merger with US would be the death knell.

  12. Gary: There is no mention in your article whatsoever of the union angle in forcing a merger between AA and US Airways. Don’t you believe that the Pilots’ Union has a more crucial role in the matter than management? Wouldn’t they be the ones to benefit the most from a merger?

    In the past few months we’ve seen AA receive a black eye not by virtue of poor decision-making but a grassroots phenomena where all of a sudden problems started happening (sudden mechanical issues, dislodged chairs, etc.) prompting a surge in delays. Is the timing just a coincidence or indicative of employees acting short of going on strike to show their displeasure with management’s stubbornness?

    Ever since bankruptcy, I perceived AA to be on a positive trajectory and finally making solid inroads into the customer conscience in terms of improved value and efficiency; their new hub in Miami actually makes flying through MIA less unpleasant. Unfortunately people don’t want that, and would rather see a merger if it means that they can hold on to benefits and entitlements to the detriment of the customer.

  13. @Gary, thanks for the updated post with your “bias” perspective, much appreciated.

    In terms of the wifi, I didn’t realize the MD-80 fleet at AA had internet, I thought it was only the 737s.

    I’m certainly not disputing the fact that AA has a better inflight product than US, but just to be fair, US will have wifi on over 90% of their mainline domestic fleet (everything except the old 737s) by middle of next year, so there will be some parity in that regard between the carriers, whether or not they merge or remain independent. Even some of the Express fleet will have wifi–as I said before, the Embraer fleet looks on track to be completed by December or January, at which point the rest of the narrowbody fleet will follow.

    Thanks again for the detailed explanation behind your thinking!

  14. I don’t think (and never have thought) that a US-AA merger would be terrible for FFers. My opposition is based on Dougie’s public clamoring for it, his whining about AA not wanting to merge with him, and his talking about it as if it’s inevitable and obvious.

  15. @Gary, I really don’t think US Airways management is dumb enough to “buy” the kind of labor peace you suggest. It hasn’t happened with the recent flight attendants contract,(and Doug Parker addressed that issue in US Airway’s latest earnings call). As an investor, I listen to earnings calls, unlike many airline aficionados.

    I really don’t think Parker is desperate for a merger. I can see him walking away if the current due diligence shows the merger isn’t viable. Just my opinion observing these folks operate here in Phoenix.

  16. @Desert ghost – American’s labor costs are higher than US Airways’ already. If they’re going to integrate their labor force it is going to be at a more expensive price point than current labor agreements. They’ve told American’s unions that already.

    As for Parker, he makes a play for every airline, that sort of undermines credibility to the claim that he makes each time that the one he’s going after at the moment is the perfect strategic marriage.

    I do not invest in individual airline stocks. Fools bet 99% of the time.

  17. I would love to see a merger that accomplished three things:

    1. Cost less or the same as advertised
    2. Provided the advertised return
    3. Did not totally screw up customer experience during and after the merger.

    Any candidates out there? Most mergers (IMHO) seem to be born of ego and self-aggrandizement. The real effort of merging two large companies is far greater than most people realize. Yeah, they are just planes, people, and a bunch of supporting assets, but there are cultures, systems, and processes that all have to change. Mergers are a herculean effort – and usually they fail to deliver. Everybody, except for a chosen few, get less in the end.

  18. @Gary, American’s costs are higher than US Airways NOW. But the contracts they’re negotiating with AMR (and the 1113 terms) are concessionary, as are the tentative MOU’s with US Airways. Doug Parker, at the National press Club, ponted out that the understandings it has with AMR’s unions aren’t much better than what AMR’s 1113 proposals entailed. If you don’t believe me, Parker’s speech and the Q & A session are on YouTube. As Casey Stengel said, “You can look it up.”

  19. @Gary, Doug Parker, on earnings calls, has repeatedly stated that there’s room for “generous” (of course, each person’s interpretation of that term is subjective) pay increases at US Airways, but they aren’t going to give away the store, either. Pay doesn’t equate to costs on a dollar for dollar basis. There will be cost savings from the merged contract if there ever is one. US management has also stated that the new contracts would add a few million in net costs, but it’s nothing the airline can’t absorb or pass on. They’ve consistently said they want new contracts, despite the higher costs. They have the real world economic data to back up their assertions. We don’t. All we can do without this data, is speculate.

  20. Gary, many good points about why a merger would not necessarily improve things.
    One point to make about the elite benefits, I think you should examine the past to look at the future. I believe if you look at the changes Delta when they acquired Northwest, or United when they merged. The elite benefits in most cases are worse. The loopholes or special benefits were removed.
    I feel an American Executive Platinum would lose their 8 system wides, or at a minimum be added a surcharge more like US. I think the first cabin would lose a lot of food service like US Airways. Perhaps you could do a piece on the changes to Elite programs AFTER mergers.

  21. Well I guess I’ll chime in here since I wrote the original piece, but it’s not a surprise that we disagree on this as has been the case multiple times on this issue. Just a few thoughts.

    Go read the piece and decide whether a more correct, Straussian reading of his post is “Yes, I am biased against American.”

    I’m not sure why you think I have a bias against American. I don’t like what management is doing or has done, but I don’t have what Merriam-Webster calls “an inclination of temperament or outlook; especially : a personal and sometimes unreasoned judgment.” I call it like I see it, and I don’t like what I see. Even if you do think I have that inclination, then I would hope you could differentiate between me having an issue with the airline in general versus the management team.

    Thing is, similar pieces could be written on each of the major airlines, highlighting the mistakes and missed opportunities over at United, Delta, and US Airways over the past 15 years.

    You’re right, they could. And in fact I have written diatribes about United in the past specifically. But while I have some criticism over tactical moves by US Airways and Delta (as will be the case with any airline), I have very few if any overarching complaints about what has happened strategically under the current management teams at both airlines. And I realize you don’t, but I do consider Tom Horton to be a part of that same management team that goes back a dozen years.

    Cranky Flier may not be biased against American but I do think he is biased in favor of a US Airways merger.

    It’s that “bias” word again that keeps coming up. I looked at the merger opportunity early on and liked what I saw. I’m not sure why that makes me biased. It just means that I believe in the benefits. I certainly support it and think it makes sense, but I don’t think that translates to bias.

    Now clearly my lens is colored by my experience working at America West a decade ago, as I specifically mentioned in my post. Having worked under these guys, that gives me more insight into how they run an airline. That may very well make me more confident than others about their ability to turn a combined American/US Airways into something great. But I still think I’m evaluting this on the merits of what will happen. With any luck, we’ll be able to revisit this post in a couple years and see who is right.

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