Can American Eagle Fly Solo?
3:30 PM on Aug 12, 2011
AMR's plan to spin-off its American Eagle into a separate company from AMR's mainline operator, American, contains some advantages for Eagle in what would be its effort to survive and thrive on its own. But, as I wrote here, the regional carrier also would face a myriad of challenges.
The biggest benefit of the spin-off, as proposed, is that American would take ownership of all of the jets in Eagle's fleet. That's a big deal because 118 of Eagle's 281 active aircraft are 50-seaters. Those aircraft have fallen out of favor with the mainline carriers that contract for regional flying, because higher fuel costs and the lmited number of seats have made them money-losers on many routes. The problem for many regional airlines is what to do with them when the contracts to fly them for an airline partner expires.
Eagle would not have that problem. As Eagle President and CEO Dan Garton explains: “What they call tail risk in this business is what we have avoided in this case. This is really American’s fleet; we are just the operator of that fleet for a period of time.”
Eagle also would begin life as an independent carrier with a nine-year contract to continue flying its aircraft for American (albeit with an option for American to begin reducing the number as soon as 2012).
But Eagle still would face a long list of challenges. Among them:
1) Fleet. Yes, Eagle would immediately become one of the largest regional airlines in the country, and a regional airline's size and scope can be important in terms of efficiency and offerings. But Eagle's problem is its fleet. As an independent regional it needs to find other clients in additon to American. But as I just mentioned, it has a whole lot of 50-seaters (ERJ-145s), which mainline carriers are shedding from regional service, not adding. It also has 59 44-seat ERJ-140s and 21 73-seat ERJ-135s. These are not aircraft the mainline carriers are clamoring for: they want bigger regional aicraft, not smaller ones. Eagle
2) Financing. Yes, under the proposed plan American would give Eagle $50 million in cash and provide a revolving credit facility (although the amount of the latter has not yet been decided). But Eagle is going to need to acquire some aircraft to reshape its fleet, grow and to fly for new partners; under the terms of the proposed plan, American would need to provide its consent for Eagle to fly any of its current fleet for other carriers and, besides, a lot of its aircraft are not ones the other airlines want in their operations anyway. Getting a loan on good terms could be problematic, because, as Eagle itself notes, it will not have any aircraft to use as security and has no credit history on a standalone basis. Garton insists Eagle will find a way, via aircraft manufacturer-provided financing or some other method, but we'll see.
Eagle’s SEC filing on the proposed spinoff says Eagle “will initially seek to enter into capacity purchase contracts where we would lease aircraft from the mainline carrier and would not be required to obtain our own aircraft." But there are scant opportunities for that--mainline carriers own only a handful of those type of aircraft, if any at all, and when I questioned Garton about this yesterday, even he seemed dismissive of the possibility.
3) Maintenance. American would own the fleet, but Eagle still would be responsible for most of the maintenance, and its fleet is relatively old. The ERJ-145s and 140s, for example, have an average age of about 9 years. For the 135s, it is 11. Its older model ATR72 aircraft average over 17 years, and its newer ones 13.5.
4) Rates. Eagle says it is confident that the rates American pays Eagle for flying for American are market rates. It had better be right. Under the terms of the proposed spinoff, if Eagle offers a lower rate to any other airline on aircraft of 61 to 85 seats, it has to give the same lower rate to American for Eagle's CRJ-700 flying. Eagle operates 47 CRJ-700 and CRJ-700NG aircraft.
5) Labor costs. Eagle's are higher than the regional airline average. Eagle hopes to counter some of that with changes in labor contracts that will generate more productivity, but says its biggest cost issue is seniority. In part because Eagle has not grown as much as other regional carriers, which allows for more hiring of new employees, it has a more senior work force, which is especially costly when it comes to pilots. Garton's contention is that the issue will resolve itself in two ways: an independent Eagle will grow, and many of the senior pilots are going to be hired away by mainline carriers. There is some support for that view: the Air Line Pilots Association just reached an agreement with American to faciliate the movement of Eagle pilots to the mainline in the event of a spinoff. But other mainline carriers have their own regional partner airline pools to draw from, so it remains to be seen how many Eagle pilots will be going to them. Garton does note, correctly, that mainline carriers could be forced to increase their hiring under new crew rest rules the FAA is considering (but which the major airlines oppose in their proposed form, in part because of the additional hiring it would require).
Could Eagle overcome these challenges? Yes, it could. But it would be starting life as an independent carrier is a U.S. regional airline market that already is struggling--even its biggest players (AWIN-subscriber only story). With all of these challenges piled on top of that, it certainly would not be easy.
tw99, American, Eagle, AMR