Mary Schlangenstein has a piece for Bloomberg that raises the question whether American Airlines CEO Doug Parker can turn the airline around. What’s notable about the piece is that a change in management is being publicly discussed – in media, by financial analysts covering the airline.
“I get the question, ‘At what point does the board say enough is enough and we need more drastic change? “‘ said Jose Caiado, an analyst at Credit Suisse. “I get that question a lot these days.”
American Airlines has managed to place itself in a position where:
- Shareholders are unhappy (shares are down more than a third in a year)
- Employees are unhappy (the airline didn’t even release full results of the annual employee survey)
- Customers are unhappy (American cancels more flights than other airlines, while continuing to add more less comfortable seats to aircraft)
American Airlines One Year Stock Performance
The Real Problem for American Management is the Best Argument in Their Defense
The strongest case for American the author was able to muster is: since the airline’s stock has fallen so much, it has more room to go up too (mean reversion) although even there skepticism is expressed about whether this management team get can there.
American “for sure is the ugliest house on the block and it’s a long-term fixer-upper,” Dan McKenzie, a Buckingham Research analyst, said in a July note to clients. “But the price is right.”
The question is whether Parker, President Robert Isom and their team can pull off a turnaround.
American Blames Mechanics and the Merger for Poor Performance
They’re six years into their merger, didn’t have the same kind of IT problems (or federal criminal probe) that hobbled United, yet the merger remains one of the key excuses for why the airline’s performance lags peers.
Last week management explained away their revenue performance to employees as the result of operational issues (blame the mechanics) and failing to add enough seats into planes.
The Airline’s Real Problems are Broader
The article suggests that American’s problems are debt, operations, costs, and company culture. There’s a piece missing from that formulation: product. In fact 7 simple steps could turn the airline around.
American has more debt than peers, which worries analysts in the event of an economic downturn (although lower interest rates could offset somewhat). They’ve been on an aircraft buying spree and may have spent over a billion dollars on their new headquarters that was reportedly planned to cost $350 million.
Cost Cuts Aren’t Enough
Analysts will push mostly for cost cuts. Two are quoted saying “American should go further and close at least one of its nine hubs to help tamp down expenses.” I’ve always been skeptical of Philadelphia as a transatlantic hub less than 100 miles from New York JFK and hubs in both Los Angeles and Phoenix. However American has already effectively closed its New York JFK hub and they should be growing not contracting as an airline so that they can compete in New York and San Francisco because they make most of their profit on credit cards and that’s where consumer wallet spend is.
The analyst argument is ‘cut cost, revenue is as good as it’s going to get except through better merchandising and segmentation’ is an argument for low P/E multiples, for effectively giving up on growth, just bleed the company for cash as long as possible to buy back shares. That’s actually something this management team has the ability to do. Their tenure at America West and US Airways proves that, even if it hasn’t been the consistent mantra at American.
Shuffling CEOs Isn’t the Solution
Changing CEOs isn’t a panacea. What’s important, no matter who carries the leadership torch, is leadership. It begins by giving up the mantra that management is just misunderstood or hasn’t had a chance to prove themselves yet.
- Give employees a mission that’s bigger than themselves, a quest that they’re all in together. They’re under attack, American is being surpassed in different ways by both Delta and United as the largest airline, management has failed them but won’t do so again — all employees need to band together to deliver not just an on-time operation but a great customer experience to win business travelers.
- Tie pay to performance. Employees who have to pick up the slack for poor performers is a drag on morale, which is why Southwest Airlines manages to move out their bottom performers in a unionized environment. Forcing mandatory overtime demoralizes customer service agents, making it near-impossible to offer good service to customers. Failing to have parts and tools stationed where aircraft maintenance is done demoralizes mechanics.
Meanwhile American faces current and near-term contract negotiations with mechanics, pilots, and flight attendants. They’ll be putting pay increases on the table, but those need to align with delivering better performance for the airline and its customers. Ultimately pay can’t grow without productivity, American Airlines has to overcome Baumol’s cost disease.
There is no question this is hard but can be done with bonuses and increases that pay for themselves, especially in the case of mechanics turning maintenance bases into profit centers for high value work at the same time as outsourcing lower value work.
- Offer a product that’s worth a revenue premium. It’s not just seat pitch and uncomfortable seats, it’s that American is squeezing premium customers along with coach customers, and that most customers are coach customers at least domestically — those buying international business class develop their impression of the airline in back and as a result American doesn’t get the credit it deserves for their business class seats and lounges. Delta at least has seat back entertainment on 700 aircraft.
- Compete in the most lucrative markets. American’s footprint in the New York area is smaller than Delta’s (US Airways management sold much of their LaGuardia operation to Delta) and United. When Southwest announced pulling out of Newark, it’s Frontier that swooped in. American isn’t even making use of the assets it has, reducing its JFK schedule by about a quarter over the peak summer period when they were no longer required to squat on slots due to runway construction.
American needs to aggressively make use of the assets it has, and seek out new opportunities where it can so that it can be relevant to New Yorkers if for no other reason than they need New York credit card spend to fatten their Citi and Barclays portfolios. They need to expand in the Bay Area for the same reason. Notably Delta has focus cities in Nashville, San Jose and Raleigh – all former American Airlines hubs – as well as Boston and Austin. This will bolster their American Express business from these cities.
- Leverage the loyalty program. Customers need a reason to choose American, and with the airline’s costs the reason cannot be price alone or they’ll lose. Lucrative credit card revenue and a period of full planes has distracted from using the loyalty program as a tool to put butts in seats – and crucially to give premium customers choosing on something other than price to choose the airline even when it’s more expensive or less convenient.
Simply making American President Robert Isom CEO doesn’t get you there. Hiring a new CEO to appease financial analysts and Wall Street doesn’t get you there.
Parker actually has the humility to pull this off. He just hasn’t shown the depth of vision yet.