American Airlines CEO: How We Do Things Differently

This story was originally published on Sept. 7.

DALLAS ( TheStreet) -- For better or worse, a strong sense of morality strongly influences American Airlines ( AMR) CEO's Gerard Arpey's management of the world's second-largest airline.

Arpey's strong ethical sense is well-known to anyone who listens regularly to American's quarterly earnings conference calls, where he periodically reminds us that the carrier's difficult financial position reflects its efforts to avoid bankruptcy in 2003 and to honor obligations to shareholders, employees, and other business partners.
American Airlines
American Airlines CEO Gerard Arpey

In an interview in his Dallas office, Arpey's commitment to principle came through even more plainly than on the calls. "This company stands for something, more than just any old company," he declared. "Gradually, it will emerge as a successful company that honored its commitments and its pension obligations and that was guided by principles of doing what's right.

"The path we have taken has created cost challenges for us," Arpey acknowledged. "But I believe there is something misguided about how we measure success, if success is bankruptcy, giving pension obligations to taxpayers and not paying back creditors. By that measure, we have failed."

Yet the strategy, while morally appealing, has not benefitted American financially. Rather, it has put the carrier at a cost disadvantage to most competitors, who went in the other direction. American estimates that disadvantage at $600 million annually. It was one of the key reasons why American was the only major airline not to report a second quarter profit.

"I feel badly for Gerard Arpey because he tried so hard to avoid bankruptcy -- I believe he views it as a moral hazard," said Stifel Nicolaus analyst Hunter Keay. "Now he gets penalized for not wiping out billions of dollars in shareholder wealth."

Added aviation consultant George Hamlin: "The word I would use with respect to American management is 'probity.' They are trying to do the right thing, and they don't get much credit for that. Maybe the world works in a way now that virtue is not rewarded anymore."

Although the Allied Pilots Association, which represents American pilots, has been at odds with Arpey, president Dave Bates said Arpey "seems to be a moral guy who is sincere in wanting to protect the pensions of employees of American Airlines." He added, "management has not been willing to share the wealth. I hope he continues to seek the moral high ground."

Arpey's life has been an airline life. His father worked for various airlines starting with TWA, and Arpey loaded bags for Delta ( DAL) during summer breaks from college. "I was bitten -- infected might be a better word -- by the airline bug at a very young age," he said, in a March 2010 speech.

Since college, Arpey has had one employer, which he joined in 1982.

The contrast in work history with his peers is telling. Delta CEO Richard Anderson has worked at three airlines and spent three years in the health care industry. United ( UAUA) CEO Glenn Tilton spent 32 years at Chevron ( CVX) before joining United in 2002. Designated United CEO Jeff Smisek will come from merger partner Continental ( CAL): he previously spent a dozen years as a corporate lawyer.
 Gerard Arpey

For the record, Arpey is a member of Peace Lutheran Church in Hurst, Texas. Asked if he is religious, he responded: "I am a Christian."

Arpey discussed his faith in a 2009 speech on "Life and Business" at the University of Oklahoma Business School, saying "I'm not here to proselytize, except to say I have a world view. I am a Christian, not by birth but by grace and reason, and I would be remiss if I didn't tell you that my faith has been the overarching anchor of my soul, from which a reservoir of fortitude has sprung.

"I hope you have such an anchor --- one that strengthens you as you confront the inevitable setbacks and difficulties that await you," he continued.

Arpey's sense of mission was buttressed by American's involvement in the 9/11 terrorist attacks. Obviously, the airline was heavily impacted: two of its airplanes were seized and crashed and 17 crew members were killed.

Most airlines have strong corporate cultures, shaped by long, colorful histories and by high proportions of employees entranced by the airline industry. Nowhere is this more so than at American, where the culture has not been diminished -- nor has it been enhanced -- by mergers with roughly equivalent companies.

Turbulence Ahead

For years, American was the largest airline. In 2008, it was overtaken by Delta, which merged with Northwest. On top of American's cost disadvantage, it now seems destined to compete with bigger airlines that have more economies of scale. Arpey and President Tom Horton have made it clear they see little benefit in a merger with US Airways ( LCC), despite widespread speculation about such a deal.

But the pair insists the future is not as dim as might seem. For one thing, they say, their $600 million annual labor cost disadvantage will go away as labor rates rise at other carriers. That will limit those carriers' ability to chop fares in markets where every single airline offers the same product: a one-stop flight through its hub. Additionally, it was not until this summer that American won regulatory approval for transatlantic antitrust immunity, which both peer airlines already had. Transatlantic immunity, expected transpacific immunity and a new hub strategy should add $500 million in annual net income by 2012, Horton said.

It is safe to say that experts' views on American diverge more sharply than they do on any other airline.

While Stifel Nicolaus' Keay accepts the company's vision, Avondale Partners Bob McAdoo maintains that American, unlike other carriers, has gone backwards. American lost $10.7 million in the second quarter of 2010 after earning $317 million in the second quarter of 2007. "Other carriers didn't get worse since 2007, but American did," McAdoo said, in an interview. "I don't know why that is, but some organizations are just not oriented towards change.

Famously, JP Morgan analyst Jamie Baker criticized the company during the second quarter earnings call, saying: "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." But Baker subsequently recommended American stock.

Arpey said he is not bothered by criticism that he forsook profits to protect pensions and honor obligations.

"We take a long-term view," Arpey said. "We presume that we'll still be running the company a long time from now and the shareholders with us now will be with us then, and the shareholders will judge (what) we've done for the company and the other constituents."

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

>To contact the writer of this article, click here: Ted Reed

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