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Surcharges Take Off At American Airlines


Carrier to charge $15 for luggage handling.


It's no big secret Americans aren't traveling much these days - domestically or abroad. On Thursday American Airlines (AMR) made an announcement that reveals just how badly it -- and possibly the entire industry -- is hurting.

According to CNBC, "American plans to cut domestic flight capacity by 11 percent to 12 percent in the fourth quarter. That's more than double its previous plans to cut flying by 4.6 percent in late 2008." Also, layoffs could be in the cards and the airline will begin charging travelers $15 for their first checked bag.

It's too early to tell what this might mean in terms of dollars and cents and corporate structure. However, the size and scope of the cutbacks seems to imply American is in what an old college professor of mine used to refer to as "deep sneakers." A couple of thousand job cuts, which is what people are talking about, could have a big impact on an organization that sports a staff of roughly 80,000.

If big time layoffs do come to fruition, will the company have to book large severance charges? Will the $15 fee for checked bags have an adverse impact on patronage? And finally, I have a sneaking suspicion that some on the sell-side are going to be even more reluctant to call a bottom for the already ailing stock. In fact, we may have caught a glimpse of what the sell-side's thinking: Early Wednesday Soleil Securities, an institutional research firm, downgraded the stock from "hold" to "sell."

The rising price of oil only exacerbates the problem. Per American's last 10-Q, fuel costs went "from an average of $1.85 per gallon in the first quarter of 2007 to an average of $2.74 per gallon in the first three months of 2008." And if the company's latest earnings release is any indication, it's bracing "for an average system price of $3.01 per gallon in the second quarter of 2008."

Talk about a perfect storm.

The implications for other major carriers are varied and difficult to predict. It stands to reason that as American begins charging for luggage handling, other carriers could benefit from increased traffic. On the flip side, other carriers could follow suit and start tacking on fees of their own. After all, it's an industry of sheep. For what it's worth, JetBlue (JBLU), which shares some of the same footprint, will begin charging for a second bag on June 1st.

The again, some of American's competitors have more flexibility in avoiding surcharges. According to data provided by Yahoo Finance, Northwest Airlines (NWA), United Airlines (UAUA) and Delta (DAL) enjoyed operating margins over the trailing 12 months of 6.14%, 3.04% and 4.05%, respectively. American's was 2.56%.

It's too early to try to game exactly how this will all pan out, but the news may be a harbinger of things to come for an already struggling industry.

Interestingly, Northwest, United, Delta -- and even American -- experienced a little pop in after-hours trading. Based on the notion airlines as a whole might be somewhat oversold, we could see more buying after the open today.

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No positions in stocks mentioned.

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