24/7 Wall St.

The airline industry has periods when more big carriers seem to be in Chapter 11 than not. Another such period may not be that far off. Right now, the news about the industry centers around combinations like the one being negotiated between Northwest (NWA) and Delta (DAL).

Putting airlines together is no guarantee that they will be more successful. A business combination does not push down oil costs. Unions often use the mergers as a way to leverage additional benefits for helping the marriage go through. This hidden cost of combinations is that customer service is almost always wrecked for a time as reservation computer systems and call centers are combined. In other words, revenue can actually fall as fliers flee to other carriers.

Airline mergers may go off the front pages and be replaced by another series of Chapter 11 filings. While earning at US carriers were modestly positive last year, at most companies operating income was offset by debt service. And, as fuel prices rise, that operating income is likely to fall. This is made worse by an economy where business and personal travel is likely to be down sharply. Refinancing debt in the current environment is also likely to be close to impossible. 

The stocks of a number of airlines are down 30% to 60% over the last year, with AMR (AMR) turning in the worst performance. AMR’s price to sales is now .14x which puts it in a league with over-leveraged car companies and newspaper chains.

Airline mergers are about to get pushed off the front page. And, the news is about to get much more unpleasant.

Douglas A. McIntyre