(DAL) American Airlines Sees Three Possible Buyers

The airline industry is likely to see another major consolidation. American Airlines, a wholly owned subsidiary of AMR Corporation, is looking for a suitable partner to merge with. In this regard, Delta Air Lines Inc. (DAL), US Airways Group Inc. (LCC) and private equity firm TPG are mulling bids to acquire American Airlines.

American Airlines is the largest carrier to have filed for bankruptcy protection, which it did in November last year, and is currently in the midst of restructuring its debt and cutting labor costs. Looking back, bankruptcies in the airline industry have paved the way for mergers and acquisitions. This is because carriers seek protection to emerge as a low cost provider with a strong competitive position in the industry.

Though the details are not fully available, let us evaluate each potential buyer on the basis of information available:

Delta and AMR Combination

A Delta-AMR combination would bring the second and the third largest U.S. airlines under one umbrella, overtaking United Continental Holdings Inc. (UAL) as the busiest airline. Industry experts believe the pairing will have limited hubs overlapping.

We believe the move would be a positive for Delta Air Lines. The company would unlock more opportunities for travelers on the West Coast as well as gain hubs in the key markets of Miami, Dallas and Chicago. Further, Delta will increase flights to and from Latin America, where American Airlines has a strong presence.

Moreover, Delta is progressing toward strengthening its footprint in New York, a big hub of American Airlines. We believe the combination with AMR would help in gaining further market share in the region.

Delta Air Lines has hired Blackstone Group (BX) as a financial advisor to access its bid for American Airlines.

Pairing TPG and AMR

The TPG review is in the early stages as the company is still to decide whether to it will make an outright purchase or simply take a stake in AMR.

Merger of LCC and AMR

We see this as the hottest pair in the industry as it would be in the best interest of the customers. Both companies are struggling to remain competitive amid steeply rising fuel prices and a weak travel demand environment. US Airways, the fifth largest U.S. airline, has long-standing problems with its pilot union. Troubles at American Airlines have intensified due to high labor costs and a debt-heavy balance sheet.

We believe the AMR-LCC merger deal could change the competitive dynamics of the airline industry. US Airways has been looking for a merger candidate following its bankruptcy protection filing in 2002. The company failed to acquire Delta, when it went bankrupt in 2006. As a result, US Airways might take American Airlines’ bankruptcy as a great opportunity to take over its larger rival.

In Conclusion

Despite a strong rebound in 2010, the airline industry is struggling again with the ongoing market turmoil and rising fuel costs following the oil price hike in 2008 and economic downturn in 2009. Further, conditions would worsen moving forward into the year, stemming from the government’s inability to find any resolution to the Euro-zone sovereign debt crisis that has dwarfed economic growth.

Airline profits have reduced to almost half from the 2010 peak due to problems in Europe that are swelling and spilling over to the rest of the world. The American Airlines consolidation in such a scenario will be similar to the previous three mergers – Delta Air Lines in 2008, United Continental in 2010 and Southwest Airlines (LUV) in 2011.

The three mega mergers helped the industry to reduce competition and raise prices. The consolidation of American Airlines, if successful, would be the fourth in the last three years.

We believe this is an opportune moment for companies to consolidate in order to regain their lost profits and operational efficiency. As United and Delta are the long-term beneficiaries following the merger actions on both the capacity and cost fronts, we believe American Airlines will also emerge as a successful candidate by balancing its debt level and lowering costs.

According to sources and airline experts, any AMR bid will take several months or a year to materialize as American Airlines is yet to complete its court restructuring process and will undergo antitrust scrutiny. Effective early this year, the shares of American Airlines have been de-listed from the New York Stock Exchange.

We are currently maintaining our long-term Neutral rating on Delta Air Lines. For the short term (1-3 months), both Delta Air Lines and US Airways retain the Zacks # 3 Rank .

BLACKSTONE GRP (BX): Free Stock Analysis Report

DELTA AIR LINES (DAL): Free Stock Analysis Report

US AIRWAYS GRP (LCC): Free Stock Analysis Report

SOUTHWEST AIR (LUV): Free Stock Analysis Report

UNITED CONT HLD (UAL): Free Stock Analysis Report

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