Are AMR Shares Headed Up?

Although its poor first-quarter results raised questions, American Airlines' shares have fallen so much that some analysts say they are worth a look.
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Story updated with American's on-time performance information and closing share price.



) -- Maybe



is not quite so impaired as it seemed to be three weeks ago.

The carrier's image may have been tarnished by a strikingly large

first-quarter loss of $505 million (including items) and by the acrimonious earnings conference call that followed, but a series of tentative contract agreements with its biggest union last week showed American in a different light: As a methodical

problem solver.

The three tentative agreements with the Transport Workers Union, including one with the 11,500-member mechanics bargaining unit, came last week and would cover about half of the TWU members at American. These are deals

American needs as it continues talks with unions that have been more recalcitrant.

While unsurprising in that American and the TWU have long had a positive relationship, the deals -- if they are ratified by members, some of whom have criticized union leadership -- could serve to alter the momentum in a labor climate that has been harsh for several years, during which American's unions have railed against a series of executive benefits approved after labor made concessions valued at about $2 billion in 2003. The labor concessions enabled the carrier to avoid bankruptcy.

In a recent report titled "Turbulence Begets Opportunity," J.P. Morgan analyst Jamie Baker recently recommended American shares, saying: "For investors who can stomach greater volatility, AMR's lagging YTD performance suggests that should management better execute, meaningful relative outperformance may potentially occur."

Subsequently, on Friday morning, Baker wrote that American shares, as well as


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shares, had fallen 30% in 28 trading days, triggering his recognition that historically, for both stocks, "short-term corrections of this magnitude have consistently been followed by equity upside over the next 180 trading days." The shares, priced at $6.75 on Friday morning, closed Tuesday at $6.93, down 4 cents for the day.

Also on Friday, Morgan Stanley analyst William Greene wrote that "the legacy laggards are the most compelling way to play summer demand" and dubbed American and


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his top picks. "Recent market risk aversion has driven a selloff in airline stocks, despite improving fundamentals," he wrote. "This volatility is an opportunity for investors."

American shares began the year at $7.73. For the year, the S&P 500 is up about 4% while American shares are down 14%. On April 21, the day American reported first-quarter earnings, its shares opened at $8.60 and fell 10% to close at $7.77 (the S&P 500 was flat that day).

The large loss seemed to shock the industry, even though American only missed estimates by two cents a share. The best-remembered moment of the earnings conference call came when, after laying out the carrier's dilemma, Baker asked: "Is this really all you got? "

Preceding the question, Baker said: "You got the highest cost, you got the lowest margins. You're the only major airline expected to lose money this year. Your year-to-date equity performance has trailed that of your peers.

"I mean, in other businesses that I can think of, when there's a company standing out like this, you sort of expect, you know, a really major overhaul," he added. What American has offered is a plan it calls 'Flightplan 2020,' which focuses on improved service and profitability. Baker was questioning the plan's adequacy.

In responding, executives stressed that American has a labor cost disadvantage relative to competitors because it, alone among the big network carriers, has never sought bankruptcy protection. "I don't think that creates long-term competitive advantage for all those bankrupt carriers," said American's CEO Gerard Arpey. American believes that the current round of labor negotiations will bring other carriers' labor costs to its levels.

One possible sign of that belief: American was among a handful of carriers that did not sign on to the Air Transport Association's statement Monday, saying the trade group would seek judicial review of a National Mediation Board ruling that eases the paths of unions that want to organize airline workers.

Also during the earnings call, CFO Tom Horton indicated that American has the potential to reap benefits worth hundreds of millions of dollars annually from antitrust immunity agreements with partners across the Atlantic and the Pacific. The former has been approved by regulators, while approval of the latter is pending. Since he rejoined American in 2006, Horton has overseen a slow, steady effort to reduce the carrier's debt, an effort that enabled a 2008 move to

order new airplanes for the aging fleet.

It is not unreasonable to think that an effort to improve operational performance may also be on the airline's to-do list. According to a Transportation Department released on Tuesday, American ranked 12th among 18 airlines in first-quarter on-time performance and last among the five network carriers. In 2009, American ranked 16th out of 19 and was last among the six network carriers.

Following the earnings call, in a report headlined "Ugly Call as Sentiment Bottoms," UBS analyst Kevin Crissey wrote: "We believe analyst frustration with AMR's financial and stock performance along with a perception that management isn't acting aggressively enough was evident on today's conference call."

Crissey reduced his 12-month price target to $12 from $14 and wrote that the recent share price decline created a "nice entry point" for investors. Still, Crissey did not fully accept the carrier's argument that it will benefit substantially when labor costs converge. That, he wrote, "is akin to a D student hoping that classmates score lower on future tests to bring down the curve."

-- Written by Ted Reed in Charlotte, N.C.

>> Who Owns AMR?: Appaloosa Management