Pretty much every major airline has been hit hard by the COVID-19 pandemic this year. But in the U.S., industry laggard American Airlines (NASDAQ: AAL) has struggled more than its rivals, due to high interest and lease costs, as well as strategic missteps.
American's third-quarter earnings report revealed that the carrier's underperformance is continuing -- and that's bad news for investors. Let's take a look.
Adding back capacity didn't help cash burn
As I noted in my earnings preview, American Airlines restored capacity faster than rivals Delta Air Lines (NYSE: DAL) and United Airlines (NASDAQ: UAL) this summer. That represented a risky bet on pent-up demand driving a big sequential improvement in domestic air travel during the traditional vacation season. Unfortunately for American and its shareholders, demand has recovered from its April nadir at a very modest pace.
As a result, daily cash burn averaged $44 million a day during the third quarter. This was even worse than what American Airlines' guidance had implied.
This cash-burn figure was worse than what Delta and United reported, too. Excluding severance and debt-principal repayments, American burned $36 million a day last quarter, compared to $24 million a day for Delta and $21 million a day for United.
Image source: American Airlines.
Not surprisingly, American Airlines' adjusted pre-tax loss of $3.6 billion also exceeded those of Delta Air Lines ($2.6 billion) and United Airlines ($3 billion). Notably, it lost more money and burned more cash than Delta and United despite generating about 25% more revenue than they did. (This just highlights how American's plan to restore capacity quickly to capture summer demand backfired.) Still, those figures are less important than cash burn in the current environment.
A mixed outlook
American Airlines' outlook for the fourth quarter was also somewhat disappointing. The company expects daily cash burn to average $25 million to $30 million, with $8 million of that daily cash burn coming from severance and debt-principal payments. This roughly aligns with United's cash burn projections. However, it's worse than the scenario Delta laid out, which calls for daily cash burn (excluding severance and debt principal payments) to slow from $18 million last month to around $10 million by December.
It's also important to note that American had to furlough a substantial proportion of its workforce just to get close to matching its full-service airline rivals' cash burn. United furloughed fewer workers, and so far, Delta hasn't furloughed anyone. Recalling and retraining furloughed workers (especially pilots) will impose additional expenses for American Airlines over the next couple of years.
Drowning in debt
American Airlines ended last quarter with $13.6 billion of liquidity, including $8.3 billion of unrestricted cash and short-term investments. Thus, it faces no immediate bankruptcy risk. However, it also had $47.5 billion of debt, lease, and pension liabilities as of Sept. 30. That figure is likely to significantly exceed $50 billion by early next year, as American draws on subsidized secured loans available from the federal government.
Management says that as demand recovers over the next few years, American will be able to start paying down debt quickly, particularly because it has reduced its near-term capital spending plans. Yet there's a good chance that the company won't start generating positive cash flow again until 2022. Furthermore, it will eventually have to replace the nearly 100 mainline aircraft it has retired this year, along with more than 200 others that are currently around 20 years of age. That will force it to ramp up capital expenditures (capex) again before too long (albeit not to the levels of a few years ago).
In short, American Airlines is going to be operating with a ton of debt for the foreseeable future, with billions of dollars maturing every year. Since it's unlikely to generate enough cash to pay down all of its debt maturities, some will have to be refinanced -- possibly at significantly higher rates. (American issued secured debt at a 10.75% interest rate last month; earlier this year, it was able to issue unsecured debt with a coupon of just 3.75%.)
Moreover, if American's debt load remains elevated when the next downturn hits, creditors may run out of patience. Until the airline makes significant progress toward its debt-reduction goals, investors should steer clear of American Airlines stock.
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