Things in the Sky

It’s been a few weeks since AMR originally announced that it would be divesting its American Eagle subsidiary, but I think the topic is worth revisiting now that more details about the spin-off have been released.

The benefits to American are pretty clear – the airline can now seek to diversify its regional feed with more airlines (Eagle provides over 90% of American’s regional service). The only carrier other than Eagle to provide regional service to American is Chautauqua, which only operates a handful of ERJ-140s under the AmericanConnection brand – an operation that finds its roots in the Trans World Express days.

I find this deal much more interesting from an American Eagle point of view, though – here are a few are a few of the pros and cons floating around in my mind (in no particular order).

Pros

New Business Opportunities
According to AMR, the spin-off will allow Eagle to “grow its business by better competing to offer regional flight services to other mainline carriers.” Eagle also outlined in an SEC filing that it believes there are better ground handling business opportunities at existing and new locations as an independent company.

Guaranteed Revenue (For a Few Years)
As per the current plan, Eagle will have a nine-year air services agreement (capacity purchase agreement) with American, along with an eight-year ground handling deal. While the scope of these agreements could possibly shrink over the years (see below), at the very lease Eagle has some guaranteed revenue that should help the company’s transition to independence.

American’s Scope Clause
While we’re on the topic of guarantees, Eagle said that “American’s current labor agreement with the Allied Pilots Association restricts American’s ability to use regional carriers other than us for flying the CRJ-700 aircraft on its behalf.” While AA’s agreement with the APA could change, this portion of flying looks safe for now.

Advantages for American Bids
Eagle said that American must “notice of any and all requests for proposals pursuant to which it seeks regional flight operations” and it has “the right and option to submit a bid to American for such regional flight operations.” The airline also noted that “for a certain number of aircraft for which bids are received before 2017, we will have a right of first refusal in connection with any third party bid.”

American is On the Hook for Eagle’s Airplanes
As part of the transition, Eagle will begin leasing its active fleet from American. The company noted in its filing “upon completion of the spin-off, we will not own any of our active aircraft and will not have any residual liability for the aircraft that we operate for American.” In addition, “upon expiration of any underlying aircraft lease or sublease, American will be solely responsible for redeploying the aircraft.” If Eagle does lose some of the flying it does for American, these terms lessen the blow significantly. It also means that Eagle has no aircraft-related debt.

Cons

Eagle Could Lose Some American Business
Right now, Eagle is slated to operate 281 aircraft for American, but that number can decrease…and soon. Starting next year American can remove up to 12 ATRs per year, and up to 40 jets per year beginning in 2014. In addition, “American’s right to withdraw aircraft each year is cumulative so that any number of aircraft not withdrawn in any year may be withdrawn in a subsequent year, subject to certain limitations,” according to Eagle. Over time, Eagle may also lose some ground handling business from American as well.

Rates Eagle Charges to American Are Subject to Change
Here’s an interesting twist that helps protect American. In case Eagle finds a deal to fly aircraft with more than 60 but less than 86 seats, the company “must notify American of the material terms of the proposed agreement and American may reduce our rates related to CRJ jet aircraft to match the rates in the proposed agreement.”

The agreement between Eagle and American also appears to have some protection against further industry scope relief, if that were to happen:

…we will be required to offer American the opportunity to enter into a new agreement with respect to additional airline services on substantially the same economic terms as any agreement we enter into with a third party at any station for regional flight operations using aircraft with more than 86 seats.

Right now the largest regional jets operated for mainline carriers are right at 86 seats. This includes the CRJ-900s and E-175s operating as US Airways Express, though the total number of seats on those aircraft is slated to decrease as first class is installed on them.

More Powerful Competitors
We’ve some interesting consolidation activity in the regional industry since AMR’s first attempt to divest Eagle in 2007 (SkyWest nabbing ExpressJet and Pinnacle acquiring Mesaba comes to mind). All of these larger competitors, like Eagle, are likely focused on cost control to help remain competitive for mainline contracts.

Changing Regional Industry Dynamics
In May 2011, there were (on average) slightly more than 5800 daily departures operated by ERJ-135/140/145 and CRJ-100/200, down from nearly 6700 in May 2008, according to DOT traffic statistics. This downward trend will likely continue in the future as capacity purchase agreements expire and mainline carriers adjust their regional service to the realities of today’s industry, such as higher oil prices. Of course, growth in the larger RJ segment has helped to offset this decrease.

Eagle May Have to Build Up Its Fleet
In order to gain new business, Eagle may have to start acquiring aircraft, which can become an expensive affair. Eagle said it plans to “initially seek to enter into capacity purchase contracts where we would lease aircraft from the mainline carrier,” but there’s no guarantee that will happen.

Concluding Thoughts

Despite all of the nice parts of the deal, I’m not really convinced that Eagle will be able to thrive on its own. Here’s the question bouncing in my head: “Why will Eagle fare better independently than ExpressJet did?”

Either way, it’ll be fun to see how this all plays out.

Yesterday, American and Qantas filed with the DOT (registration required) for approval of their joint business agreement, or JBA. It’s worth noting that the carriers are not applying for anti-trust immunity (like Delta and V Australia) here “in light of the existing lack of competition between American and Qantas and the inability of American to operate its own service to the South Pacific.”

That line is footnoted, and says that American doesn’t have the aircraft, and that it is “precluded from operated nonstop services on the stage lengths for U.S. – South Pacific Services.”

That point is further explained in another footnote:

American has six Boeing 777-300 aircraft on order with expected delivery dates in 2012 and 2013 . While these aircraft have a range of approximately 9,000 miles, they will not be configured or delivered anytime in the immediate future. Nor does any plan exist to use these assets to serve Australia/New Zealand. The aircraft to be delivered are not yet committed to particular routes, and given that American is currently short on long range aircraft to serve its existing routes, American will be carefully considering where these assets will be deployed and how they will be configured. In any event, the terms of American’s current collective bargaining agreement with the Allied Pilots Association would not permit service to Australia/New Zealand. That agreement cont ains a 14:30 flight time limitation. According to block times published by Qantas, service from Sydney to Los Angeles has an elapsed time of 14:35 to 15:00 depending on equipment type flown. Service from Sydney to Dallas/Fort Worth has an elapsed time of 15:25.

There are a few interesting things here. First – apparently American has ordered another 777-300ER! It will be interesting to see where those are deployed.

I also found the limitation on flight time to be interesting, frankly because I had forgotten about its existence! But based on my research, it appears that very long-haul flights are possible. For example, American cites a 14:35 and 15:00 hour elapsed times for a transpacific flight (these are the block times for Qantas’ 747 and A380 LAX-SYD flights, respectively). But American’s flight from Chicago to Delhi is 14 hours, 40 minutes – longer than one of Qantas’ flights to Australia. What gives?

Well, it according a news release from the Allied Pilots Association (APA) from a few years ago, their contract with American “contains language governing extended long-haul flying…on a city pair-specific basis only.” Of course, that language can lead to some drawn out negotiations, which is exactly what happened when American was looking at Dallas – Beijing flights.

So, yes, American’s current contract with the APA doesn’t allow for free reign on American’s part to add very long-haul routes. But it does appear that some kind of arrangement can be made in specific cases to allow for such flying. Granted, negotiating specific routes could certainly be a cumbersome process, and there’s no guarantee that such negotiation will be fruitful.

Maybe this will be hammered out when the APA and American negotiate a new contract? (Though who knows when the two sides will reach a tentative agreement?)

American had an investor presentation today, and here are a few of the highlights.

First, on the fleet side – nothing too shocking here except that American has apparently ordered a third 777-300ER:

American re-timing JFK-Heathrow flights with British Airways isn’t anything new, but the airline had an interesting graphical representation:

Finally, American also provided an update on its capacity, saying that its consolidated capacity growth for 2011 will be about 1% lower than previously guided. (The airline said in January that capacity would be up 4.6% year-over-year.) The capacity growth will primarily be driven by more international flying (longer stage length equals more ASMs) and that MD-80s are being replaced with slightly larger 737-800s.

On the revenue side, consolidated PRASM for January-February was up 4.5-5% year-over-year, which is significant only because American doesn’t give out a monthly revenue number. The airline also said that revenue was reduced by about $50 million due to storms in January and February.

American also said that advanced booked load factor for this month is in-line with last year.

Personally, I was hoping the slides would have some insight on the whole Orbitz/Expedia situation, but I didn’t see anything.

American Airlines has just announced that it has ordered two 777-300ERs that will be delivered late next year.

“We value the combination of size, range and performance of the 777-300ER, as well as the extensive customer amenities it offers. The seating capability of the aircraft will give us growth flexibility in slot-constrained airports and provide us with greater ability to serve new long-haul markets,” said American president Tom Horton in the news release.

It’ll be interesting to see where these end up, for sure. When Horton says slot-controlled airports, China comes to mind, as well as American’s new service to Tokyo-Haneda. And it will be interesting to see what markets are added as a result. (Possibly Asian destinations?) Then again, only two 777-300ERs won’t allow American to add a whole bunch to its route map.

The announcement comes as American reported a $94 million net loss for the fourth quarter, which represents a significant year-over-year improvement.

American currently operates 47 777-200ERs.