AMR Seen Imperiled in U.S. Shift to Block Airline Merger

American Airlines’ chances of leaving bankruptcy as a strong competitor with its biggest peers were left in jeopardy yesterday when the U.S. Justice Department sued to block a merger with US Airways Group Inc.

The lawsuit may force AMR Corp. (AAMRQ)’s American to abandon a restructuring plan backed by creditors and employees who expected to be part of a carrier able to take on United Airlines (UAL) and Delta Air Lines Inc. (DAL), according to analysts, investors and consultants.

Rejection of a merger would leave American as a weak No. 3 in the U.S behind United and Delta instead of surpassing them to become the world’s largest carrier. The company would have to start over in crafting a reorganization plan, including accords with creditors and investors now wedded to a US Airways tie-up.

“American has got their work cut out for them,” said Greg Charleston, senior managing director at Conway MacKenzie Inc., an Atlanta-based restructuring-advisory firm. “This merger really made a lot of sense. It all fit together. Now you pull that piece out and I’m not sure what you have.”

The Justice Department sued to block the merger on the grounds that it would boost fares and hurt competition. While Tempe, Arizona-based US Airways and AMR vowed to contest the U.S. suit, investors yesterday dumped airline shares.

Lower Ratings

Jamie Baker, a JPMorgan Chase & Co. analyst in New York, today lowered his ratings on AMR, US Airways and Delta to neutral from overweight on the risk that the industry’s consolidation would be halted.

The Bloomberg U.S. Airlines Index of 10 carriers fell 1.5 percent at the close in New York, after dropping the most since April yesterday. AMR today tumbled 14 percent to $2.74, US Airways declined 1.2 percent to $16.17 and Delta slid 2.6 percent to $19.04.

US Airways Chief Executive Officer Doug Parker, 51, has been set to take the helm at the combined carrier, along with a new board for a rechristened American Airlines Group Inc. The airlines have had 29 teams with workers from each side toiling for months to mesh commercial, operational and other functions.

“In terms of being true long-term competitors going up against Delta and United with their truly global networks, both American and US Airways would be at a significant competitive disadvantage,” said Jeff Straebler, managing director for aerospace in the bonds and corporate finance group of John Hancock Financial Services in Boston.

US Airways, the fifth-largest U.S. airline, doesn’t fly across the Pacific, while its network in the eastern U.S. would help feed travelers onto American’s long-haul international flights, where fares -- and profits -- are higher.

Earlier Approvals

The Justice Department lawsuit broke with its own history of airline-merger approvals, including tie-ups since 2008 for Delta and United parent United Continental Holdings Inc. Each of those deals pushed the new carrier to the top of the global industry’s traffic rankings.

Combining AMR and US Airways would shrink competition and raise prices, in part because the new carrier would be less willing to discount tickets against United and Delta, the Justice Department said yesterday.

There is “no question” that American could succeed on its own after leaving bankruptcy protection, Assistant U.S. Attorney Bill Baer said on a conference call after the department filed its lawsuit in federal court in Washington.

‘Competing Vigorously’

US Airways is “competing vigorously” and earning record profits, the U.S. complaint said. “A revitalized American is fully capable of emerging from bankruptcy proceedings on its own with a competitive cost structure, profitable existing business and plans for growth.”

That was a minority view within the airline industry.

“US Airways and American can survive,” said Michael Boyd, president of aviation consultant Boyd Group International Inc. in Evergreen, Colorado. “But they are going to be materially weaker carriers because of the mergers the DOJ has approved.”

American filed for Chapter 11 in November 2011, after failing to reach lower-cost labor contracts in talks dating to 2006 and annual losses that began in 2008.

Months later, American’s unions signed contingent contracts with US Airways and began lobbying for the combination. The carriers have been preparing for a merger since announcing an agreement to combine on Feb. 14. AMR abandoned its original plan to focus on its five major hubs and boost international service. It has eliminated 10,000 positions, all but 1,800 via attrition and early-out programs.

‘High Level’

CEO Parker and his team have functioned at a “very high level” and had a shot at improving operations at American, said Rob Pickels, an analyst at Fairport, New York-based Manning & Napier Inc. (MN), whose airline holdings include US Airways shares.

“One of the exciting aspects of this was you had this mismanaged company that was going to be managed by one of the best groups in the industry rather than one of the worst,” Pickels said. “Now that potential is at risk.”

The merger plan calls for a full recovery for all of AMR’s creditors, equity stakes for most American employees and a 3.5 percent aggregate equity stake for existing AMR shareholders. Some creditors may receive only a portion of their claims and stockholders usually get nothing when a company emerges from bankruptcy and issues new shares.

“There’s a lot more at stake here that affects the industry,” said Vicki Bryan, an analyst with New York-based debt researcher Gimme Credit. “The industry as a whole is weakened by a weak player, especially one the size of American Airlines.”

‘Gut Shot’

American’s labor unions, foes of CEO Tom Horton, 52, in his one-time bid for a stand-alone bankruptcy exit, plan a vigorous lobbying campaign in Congress and via the news media to pressure Justice officials to reverse course, said Dennis Tajer, a spokesman for the carrier’s pilots union.

Word that the merger might be blocked hit workers like “a gut shot,” said Tajer, a spokesman for the Allied Pilots Association, which represents 8,200 active pilots who would receive an equity stake in the combined airline.

Gordon Bethune, the former CEO of Continental Airlines, which merged with former United parent UAL Corp. in 2010, had a similar reaction, citing the Justice Department’s break with its own merger-approval history.

“It’s hard for me to comprehend why they would do this unless there’s a short in the mainframe of the brain,” Bethune said. “It doesn’t hold with anything they’ve done in the past.”

To contact the reporters on this story: Mary Schlangenstein in Dallas at maryc.s@bloomberg.net; Julie Johnsson in Chicago at jjohnsson@bloomberg.net; Thomas Black in Dallas at tblack@bloomberg.net

To contact the editor responsible for this story: Ed Dufner at edufner@bloomberg.net

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