The Dallas Morning News ran an in-depth report on American Airlines’ current woes, wondering “what if American hadn’t avoided bankruptcy?” The Ft. Worth-based airline was one of the only ones to avoid Chapter 11 in the early 2000s, and now it is being punished by Wall Street analysts for having (relatively) high labor costs and pension obligations, compared to its competitors, who mostly shedded pensions and gutted contracts while under bankruptcy protection. The article provides a good background of the acrimonious disputes leading up to a 2003 agreement by three AA unions to agree to big pay cuts–over $1.5 billion annually. That affair was dominated by the resignation of CEO Donald Carty, who, along with several other top executives, were to receive several million dollars in bonuses as a “reward” for winning the concessions.
Most of the other major airlines used bankruptcy as a cudgel to trim down. When they emerged, leaner and cheaper, Wall Street applauded. AA managed to return to profitability too, but it did so more gracefully, with less hurt to employees. Now that all the major airlines are out of bankruptcy and in the black, unions are calling for profits to be directed toward restoring compensation lost in the lean years. Unions at AA are calling for this too, and they have a special argument: their concessions saved the company. “‘We didn’t just bail out American Airlines and AMR Corp.,’ [pilots union spokeman Karl] Schricker said. ‘We bailed out the leaseholders. We bailed out the debt holders. We bailed out the shareholders. We bailed out everyone.’”
But why avoid bankruptcy? According to the DMN, it became “a part of business strategy” after deregulation in 1978. According to one academic they cite, bankruptcy is “a corporate restructuring device, just like a spin-off, a divestiture, an equity carve-out, a merger. . . . Really, Chapter 11 reorganizations are really no different than hostile takeovers or a leveraged recapitalization as a device for improving a company.” According to research presented last fall by Aparna Mathur, lenient bankruptcy laws stimulate entrepreneurship, and U.S. bankruptcy laws are well-suited to our business climate: “America’s bankruptcy law is rooted in the “fresh start”—the idea that honest debtors experiencing a spot of bad luck, such as temporary job loss, illness, or divorce, are capable of putting the past behind them and moving on. This concept works especially well for owners of small businesses. By wiping out debts and pardoning failure, American bankruptcy gives the entrepreneur a chance to bounce back.”
So why did AA work so hard to avoid Chapter 11? According to a former exec at US Airways (a two-time post-2001 bankruptcy vet), “The problem is that bankruptcy leaves a lot of carcasses around. You have shareholders who are wiped out. You have employees whose contracts are severely modified and end up being incredibly disgruntled and unhappy coming out of it. You have a slew of other vendors and outside people whose contracts have been abrogated or severely modified. You don’t create a situation where you’ve got a lot of constituents on your side when you go into bankruptcy.”
Furthermore, there’s a social norming stigma associated with bankruptcy that’s healthy to preserve. In Monopoly, bankruptcy=defeat. It’s not a position of strength. And bankruptcy, even if it is through no fault of the petitioner, involves “erasing” debts–a misnomer, because the creditor still eats the loss. In the case of large companies, like airlines, it also involves breaking promises to employees and perhaps fatally wounding morale. “‘It amazes me that bankruptcy has lost its stigma in business,’ said Mr. Schricker of the pilots’ union. ‘It used to be, a company went bankrupt and all these senior managers went away. Now it’s like bankruptcy is just a business strategy–and that’s not what America is about.’”
George Will once wrote two very different columns on these issues, separated by four years. In 2002, he castigated United’s employee-owners and urged the airline into Chapter 11, singing the praises of bankruptcy all the way. Then, interviewing AA clean-up CEO Gerard Arpey in January 2007, he asked:
Is it irresponsible for American not to use bankruptcy to lighten legacy costs — shredding labor contracts and reducing obligations to retired employees?
Gerard Arpey, American’s chief executive, replies with a laconic “no.” He considers it unseemly and shortsighted — and unnecessary — to seize short-term competitive advantages by reneging on labor contracts freely consented to, and to escape commitments to investors who lent you money in good faith. Furthermore, the damage to employee relations makes bankruptcy more costly than some companies realize when they use it as a routine management tool.
So, readers and commenters: should airlines try at all costs to avoid bankruptcy, or should they embrace it as a business practice?
What if American hadn’t avoided bankruptcy? [Dallas Morning News]