I recently wrote about American CEO Doug Parker’s view on why things are on the right track at American, but that’s certainly not a view shared by many these days. There seems to be something wrong with American, but it’s hard to figure out exactly what that is.
Certainly investors aren’t happy, and the stock is in the toilet. Doug has repeatedly explained his view on why Wall Street is wrong, but that hasn’t moved the needle. (Go figure. Wall Street usually loves being told they’re wrong.) Most analysts would agree that the stock is oversold relative to the underlying value of the company, but being undervalued doesn’t mean it should be valued the same as its peers. Delta has long been the leader of this pack, but United is having a great year. And American is not.
The Issue At Hand
The most recent and obvious issue is American’s lagging revenue performance. In the most recent quarter, United and Delta were able to push for huge gains in unit revenue to almost (if not completely) offset the impact of rising fuel prices. American didn’t even get close.
American has put forward some seemingly valid excuses to explain this away. For example, Latin America has been problematic with overcapacity and fare pressure. American has much greater exposure there than United or Delta, so it will feel the pain more. But that’s not enough to explain what’s going on.
Below you’ll find some domestic-only numbers. This should eliminate the effects of foreign exchange or weakness in various global regions. It’s also been stage-length adjusted to make for a fair comparison.
Last year in the third quarter, American was sitting relatively pretty. But now? United has surged ahead in unit revenues. American just hasn’t grown its revenues the way others have.
The hard part is figuring out exactly why this is happening. We don’t have a full set of data for the third quarter, but even if we did, it would still be hard to tease out why this has changed. It could be something we can’t see, like revenue management issues, but it could also be something in plain sight. Today I’ll focus on some of those areas that could be contributing to the airline’s revenue woes.
A Little Too Basic Economy
Let’s start with one of the more visible issues this year: the overly-aggressive Basic Economy roll-out. American went with a model that restricted carry-on bags, but that gave a distinct advantage to any other airline selling on price. On Google Flights, for example, you can toggle if the fare should include a carry-on or not. When selected, Delta’s Basic Economy fare would show up, but American’s regular economy would show, putting the airline at a disadvantage.
American reversed this in September when it allowed carry-ons once again for Basic Economy fares, but this is still hard to pin blame. After all, United still has a carry-on restriction in place and seems uninterested in following American’s lead.
Questionable Network Decisions
Some of American’s flaws aren’t as tactical as the Basic Economy roll-out. I talked about the Latin America problem, but that is something the airline just has to ride out. There are other network issues that I see as questionable strategic moves. Just look at the coasts.
American thinks it needs to have a big presence in the biggest cities in the US. In New York, that means serving the largest business markets and then maintaining a semblance of a presence in other markets. Why bother? The non-hub routes that remain aren’t going to perform well, especially compared to the rest of American’s network.
On the other side of the country, American has decided to stake its claim in Los Angeles and make it the airline’s Asian gateway. These Pacific routes do not do well, and that’s being kind. The domestic network out of LA was ill-advised when it began under the previous management team, and it remains ill-advised today. Being big in LA is a no-win situation that’s a drag on earnings. I understand nobody wants to cede any ground, but maybe American should.
American thinks it needs an Asian gateway on the West Coast, but does it really? I’m an armchair quarterback, yes, but it seems to me that Dallas/Ft Worth can be the Asian gateway for the airline. From the cities west of Dallas, American should try to build up flights to Tokyo with its joint venture partner Japan Airlines and feed people through that hub. Leave LA to the others who want to fight it out and throw money away.
The Diminishing Onboard Product
Another part of American’s issue may lie with a series of onboard product decisions that have put a negative halo on the brand. It is historically challenging to tie most product decisions to a direct revenue impact, but in a consolidated world, those things should have a greater impact than before.
Rationally, having robust streaming entertainment and removing screens from seat backs may sound fine. In fact, United is largely doing the same on new aircraft deliveries. But in practice, customers see an airline that’s skimping and saving while Delta invests in something better.
Then there’s the never-ending densification effort. American almost set a new bar for a legacy airline by having sub-30 inch seat pitch in a few rows on its new MAX aircraft. Internally this must have been hated by some, because the news was leaked before it was set in stone. The backlash made American reverse course, but that was a small victory. American is still going very dense onboard.
Delta, meanwhile, tried that on the Airbus fleet and removed some seats because of flight attendant backlash about the galley size. It stuck with 9 seats abreast on the 777 instead of 10 on American and United. In general, Delta seems to be willing to give each person in coach an extra inch over American.
Delta finds itself controlling the story by rolling out new aircraft with great amenities. The
C-Series A220 has wide seats, fewer middles, seat-back screens, and an excellent overall customer experience. That doesn’t change the fact that if you’re in row 36 on the MD-88 in Delta’s fleet, you aren’t happy. But the overall narrative is one of Delta moving forward positively while American isn’t. That impacts customer perception which may mean higher dollar fares go to Delta (and increasingly United) while American has to fill seats with lower fares. MAYBE.
A Poor Operation
There has been loads of discussion around American’s poor operational performance this summer. That certainly has a cost impact, but revenue? In theory, people will choose another airline assuming price and schedule are in the same ballpark if one airline doesn’t perform well. So let’s look at the numbers. While American did have a bad summer, these numbers (which include regionals) might surprise you.
What’s the surprise? Well, American isn’t the only one having a bad summer. United — an airline that has recently been vaunted for its improved operational performance — has been running neck-and-neck with American in a race to see who can do worse. Yet United remains the darling while American is in the dumps. This goes back to brand perception.
Neither United nor American have run consistently good operations in years. When Scott Kirby departed the scene at American, I figured the elevation of Robert Isom into the president’s role would provide more focus on the operation. If that happened, the results certainly aren’t there. The company has admitted that its operation isn’t good right now, but it isn’t giving details.
Rumors are swirling that some of this is a labor issue. The mechanics and fleet (ramp) service workers still don’t have a post-merger contract, and some have suggested that a slowdown could be occurring. I don’t know if that’s true, but the protracted negotiations do take a toll on morale, even for those who just want to do their jobs well and stay above the fray.
American is saying it will fix the problem, but how many times will people have to hear the same thing before they stop believing it will reliably improve going forward?
The Softer Side
The lack of hard number evidence leaves me in an uncomfortable place, assuming that at least some of the problem is from something softer, less tangible.
If we think about American’s operational performance, we also need to think about its approach. American’s management team has for years (since the US Airways days) focused on the D0 metric. D0 means departing exactly on time or earlier. That’s the way the management team feels is best to keep the airline running on-time overall.
That may be the case on paper, but it also creates really ugly customer interactions. People show up to the gate 10 minutes before departure and are told they can’t board. This problem is exacerbated by American’s desire to build more efficient connections at its hubs. In Chicago, for example, American will allow connections on some flights to go as low as 29 minutes. These short connection times give much less buffer to make up for an inbound delay. Throw in a D0 obsession and there’s even less margin to recover.
Delta offers really tight connections, but it has also put more buffer into the schedule. That means it can run a great operation so people can actually make those connections. Delta sacrificed pure efficiency in aircraft scheduling so that it could get greater overall efficiency and provide a better customer experience.
American is trying too hard to squeeze out efficiency here. Then the airline puts in place policies to make the problem even worse. For example, there was the recent decision to not allow non-elites to be put on non-partner airlines. Think about Chicago again. If someone missed that 29 minute connection, they’re going to immediately think about the other major hub airline at the airport. But agents are now told that only important travelers can fly United. The unwashed masses have to suck it up or get an exception from a manager. Every airline favors elites, but for some reason it feels harsher with American these days.
This has two big impacts. One, it just makes travelers even more angry, and like I said, this in theory should eventually impact revenues. But then we’re also back to a familiar refrain: it really hurts employee morale. No employee wants to have to deal with things like this.
The Employee Relationship Problem
I’ve heard several comments from loyal United fliers lately about how employees just seem happier and friendlier. There is a momentum at United for the first time in probably two decades, and that makes people more pleasant when they come to work. Delta has had that momentum for years. American should have been able to ride that momentum longer after the merger, but it has stalled.
It’s hard to point to a single issue that could fix everything here, but there have been several flash-points. For example, there was the uniform fiasco where a relatively small group of people reported having allergic reactions. We’ve seen other roll-outs since then at other airlines where this has just been a non-issue. While not everyone was impacted, those who were undoubtedly brought a more negative attitude to work. And that spreads. Throw in a poor operation and a variety of other factors, and there is a perception that American is just generally less friendly these days.
The Solution Lies With Management
The solution, of course, falls squarely on management. Whether it’s a brand issue, an operational issue, or a revenue mismanagement issue, they’re the ones who have to set the tone and guide the ship. On the last earnings call, American pointed broadly to all kinds of initiatives it had in place to fix things, including a $1 billion revenue increase primarily from fixing Basic Economy and rolling out Premium Economy further. If American can hit those numbers that will quell much of the discontent on Wall Street.
For now, however, the rumblings aren’t positive. The narrative around United is that is an airline that’s, ahem, rising. The narrative around Delta is that it has already risen long ago, but it, ahem, keeps climbing. And the narrative around American?
There is a general feeling that American has lost the nimbleness that used to exist with US Airways. There’s no question that’s true. The word “stagnant” has been batted around a lot, and “customer-unfriendly” has become synonymous with many of the moves American has made. The thing is, that doesn’t necessarily impact the bottom line, especially if you still believe in a world where price and schedule matter above all. What we do know is that something is hurting American’s revenue performance. It could be some or all of what I’ve highlighted, or it could be something else. Regardless of the issue, it’s up to management to figure it out and fix it. I would say the next year is going to be crucial to see if this team is up to the task this time around.