This is just a prediction, it isn’t a fact, but I think the prediction is based on some pretty sound data.
I read through American Airlines’ year-end 2012 10-K filing this afternoon and learned several interesting things about the frequent flyer program:
- In 2011 American reduced revenue by $43 million because of a decrease in the ‘breakage assumption’ of their miles — fewer expired, unused miles. This is an accounting charge that says they expect redemptions to cost them more money than they had anticipated because members weren’t letting their miles lapse.
- In 2012 they took in less revenue for the sale of miles to third parties than in 2011. I wonder if this was related to the bankruptcy, with folks shying away from the airline’s program or from the airline itself due to operational difficulties. I wonder also if this more than just correlates with the recent increased promotional activity, bonusing the sale of miles to consumers.
- They currently hold $1.7 billion as a liability for future travel to be provided by outstanding miles, and that’s based on their own estimates of fulfilling travel redemption (based on the incremental cost of carrying a passenger in a seat that would have gone empty). That’s 18.4% of all of the liabilities the airline has. American itself — not counting alliance and other partners — redeemed 6 million one-way awards in 2012, accounting for 8.6% of passengers.
But I was also reminded of the terms of a billion dollar deal with Citibank which is what I base my opinion on that the co-branded card issuer will be in a position to keep the franchise, and won’t lose out to Barclays. (I suppose Barclays could have a similar deal just signed with US Airways, since their last deal would have recently expired and I haven’t read the renewal, but I am presuming that the relative size of American compared to US Airways suggests that the money even in a similar deal would be far less from Barclays).
In 2009, American entered into an arrangement under which Citibank paid to American $1 billion in order to pre-purchase AAdvantage Miles (the Advance Purchase Miles) under American’s AAdvantage frequent flier loyalty program (the Advance Purchase). Approximately $890 million of the Advance Purchase proceeds was accounted for as a loan from Citibank with the remaining $110 million recorded as Deferred Revenue in Other liabilities and deferred credits.
To effect the Advance Purchase, American and Citibank entered into an Amended and Restated AAdvantage Participation (as so amended and restated, the Amended Participation Agreement). Under the Amended Participation Agreement, American agreed that it would apply in equal monthly installments, over a five year period beginning on January 1, 2012, the Advance Purchase Miles to Citibank cardholders’ AAdvantage accounts.
Pursuant to the Advance Purchase, Citibank has been granted a first-priority lien on certain of American’s AAdvantage program assets, and a second lien on the collateral that secures the Senior Secured Notes. Commencing on December 31, 2011, American has the right to repurchase, without premium or penalty, any or all of the Advance Purchase Miles that have not then been posted to Citibank cardholders’ accounts. American is also obligated, in certain circumstances (including certain specified termination events under the Amended Participation Agreement, certain cross defaults and cross acceleration events, and if any Advance Purchase Miles remain at the end of the term) to repurchase for cash all of the Advance Purchase Miles that have not then been used by Citibank.
The Amended Participation Agreement includes provisions that grant Citibank the right to use Advance Purchase Miles on an accelerated basis under specified circumstances. American also has the right under certain circumstances to release, or substitute other comparable collateral for, the Heathrow and Narita route and slot related collateral.
If American were to walk away from Citibank as its co-branded card issuer, as of now they would be on the hook for about $800 million cash back to Citi. If they did it in a year they’d still be on the hook for $600 million. And the obligation is secured by their London Heathrow and Tokyo Narita route authorities and landing slots.
That’s a huge hurdle to overcome for any interloping bank who may want to throw money at the merged airline and take over the co-branded credit card business.