AAL

1. American Airlines Group (AAL)
Bankruptcy Hides Transition to a “New American”
LONG, TP $46 (+30%)
RESEARCH TEAM
Parker Kim, Senior Director
Mark Albin, Senior Analyst
Charlene Shu, Junior Analyst
Christopher Boyd, Analyst
Daniel Chen, Analyst
Karsic Ma, Analyst

2. September 2014
Table of Contents
Investment Thesis
Parker Kim
Company Overview
Daniel Chen
Industry Overview
Christopher Boyd
Competitive Overview
Karsic Ma
Financial Overview
Mark Albin
Risk Overview
Charlene Shu

3. Investment Thesis

4. September 2014
Investment Thesis
Investors Need More Evidence to be Convinced
AAL P/E Shows Underappreciation
Despite Becoming a Dominant Player
Why does AAL trade at
discount to its peers
despite having superior
market share and
profitability?
We believe the market is
holding American back because
they can’t let go of its
turbulent past and are waiting
for merger execution.

5. September 2014
Investment Thesis
The “New American” Isn’t Just a Slogan
AAL Yields Have Grown the Most
Margins Closing in on “Best-in-Class”
Despite negative investor
sentiment, we believe that
Network Quality
+
Yield Growth
+
Profitability Gains
Indicate AAL both has been and
will continue to be successful in
executing the US Airways merger

6. Company Overview

7. September 2014
Company Overview
An International Network Carrier with Strong Market Share
Airline Carrier + Airfreight Services Recently emerged from bankruptcy
 Fleet of 903 aircraft
 Focus on fleet replacement and
existing plane retrofitting to develop
the most modern, efficient fleet
 Largest and most extensive network
in the US
 Filed bankruptcy in Nov 2011 after it
was unable to pay its high debt
payments
 Agreed to a merger with US airways
and restructured its obligations to
emerge as a more efficient airline
with a stronger network

8. September 2014
Company Overview
Competitive Advantage
Partnerships with other airlines
strengthens international network
Frequent flier programs boosts
customer retention
#1 network strength makes
choosing AAL a logical choice
for frequent fliers

9. September 2014
Company Overview
Post-Merger, US Airways Management Poised to Launch AAL
Doug Parker
Chairman & CEO
Scott Kirby
President
Derek Kerr
CFO
Experienced US Airways management team is key to executing
on merger benefits
Synergy Targets: $1.4bn
 PwC Study: cost-cutting, increased efficiency, stronger network
 Every performance metric has improved – approaching #1 rank

10. September 2014
Company Overview
SWOT Analysis Indicates Opportunity in Pacific Markets
Strengths
 Largest network
 Largest frequent flier program
 Experienced management team
 Excellent profitability margins
 Merger execution risk
 High leverage risk from fleet
improvements
 Continued growth in disposable
income
 Increased business travel aligns
with strong business traveler
exposure
 Increased demand for Pacific travel
 Technology-based disruptions in
business travel (ie. Skype)
 Frequent-flier stealing programs
Opportunities
Weaknesses
Threats

11. Industry Overview

12. September 2014
Industry Overview
Market Forces Make Airlines a Tough but Feasible Play
 Large start up costs to purchase planes
discourage new entrants
 Regulatory issues and airport leasing
process make the startup path difficult
 Low switching costs and few variations
between AAL/DAL/UAL make customer
retention difficult
 However, frequent flier programs offset this
 Competition is based on price which forces
razor-thin profit margins
 Differentiation difficult, focus is on frequent
flier programs + comprehensive network
 Leisure carriers are the most susceptible to
alternatives in domestic travel
 Only 2 major suppliers: Airbus + Boeing
 Recently, AAL has begun purchasing planes
from Airbus (previously only Boeing)
 Despite duopoly, pricing power remains fair
HIGH
MODERATE
HIGH
LOW
MODERATE
Porter’s AssessmentIndustry Dynamic Rationale
Barriers to Entry
Bargaining Power of
Buyers
Intensity of Rivalry
Threat of Substitutes
Bargaining Power of
Suppliers

13. September 2014
Industry Overview
Post-Consolidation, Pricing Power Should Improve
Favorable Industry Environment
 The major US carriers
should continue to benefit
from a landscape where
consolidation has optimized
load factors.
 Strong demand is producing
record load factors.
Revenue optimization
initiatives combined with
structural cost reductions
should drive industry
profitability up.

14. September 2014
Industry Overview
Industry Improvements Have Seen Tangible Success
US Airlines have begun generating economic returns
(ROIC > WACC)
Cost reductions have successfully slowed cost growth
to ~3% per year (even less for AAL)
In the environment of consolidation, airlines have shifted their
focus from aggressive market share warfare to optimizing their
internal processes.

15. Competitive Overview

16. September 2014
Competitive Overview
Competitive Advantage leads to Revenue Success
AAL revenue per mile is continually growing and has
recently moved to #2 in the industry.
While its cost per mile has run in line with network
operators.
American holds the most market
share in the largest market
segment

17. September 2014
Competitive Overview
Target Market
Who American targets relative
to network, leisure

18. September 2014
Competitive Overview
AAL’s Network Leads in Market Share

19. Financial Overview

20. September 2014
Financial Overview
Seemingly Riskier Balance Sheet is not as Bad as Perceived
We project AAL’s total liquidity position ex-RCF to be
between $10-12bn for 2014-2016
...but we forecast Debt / EBITDAR levels to normalize
as cash flows mature and debt is paid down.
Liquidity as a % of LTM Revenue has topped the
industry for the last year
AAL does have the largest debt position of its network
peers…

21. September 2014
Financial Overview
Seemingly Riskier Balance Sheet is not as Bad as Perceived
Free cash flow levels should
begin to normalize to begin
funding capital structure
changes.

22. September 2014
Financial Overview
Comparables Analysis Shows AAL Trades with US and RoW
Global Average: 7.8x
US Average: 7.1x
AAL
7.6x

23. September 2014
Financial Overview
Comparables Analysis Shows AAL Trades with US and RoW
EV/EBITDAR
ROIC

24. September 2014
Financial Overview
AAL Represents Strong Upside Despite Negative Sentiment
2013A 2014E 2015E 2016E
EBITDAR, adj 5,744 7395 8779 9678
% Margin 14.2% 17.2% 19.4% 20.4%
Taxes -107 363 20 25
NOPAT 5,851 7,032 8,759 9,653
Capex -2,143 -2,813 -3,438
D&A 1,132 1,272 1,307 1,344
Change in NWC -150 -200 -300
Unlevered FCF 6,011 7,053 7,259
PVFCF 5,869 6,261 5,858
Projected Period EV 17,988
Terminal EV @ 4.7x 36,707
Enterprise Value 54,695
Less: Debt 22627
Plus: Cash 1140
Equity Value 33,208
Fully Diluted Shares Outstanding 720.5
Share Price $46.09
Blended UAL/DAL 2015E EV/EBITDAR,
current EV/EBITDAR: 7.1x
Consensus estimates for EBITDAR
+30% upside

25. September 2014
Financial Overview
Model Drivers: Unit Costs, Pricing, Utilization
2013A 1Q14A 2Q14A 3Q14A 4Q14E 2014E 2015E 2016E
Operating Statistics
RPMs 215,541 50,886 57,194 58,642 53,518 220,240 225,526 230,262
Y/Y change(%) 2.7% 1.7% 2.5% 2.1% 2.4% 2.2% 2.4% 2.1%
ASMs 259,914 63,392 68,090 69,119 65,232 265,833 272,213 277,385
Y/Y change(%) 2.1% 2.0% 3.1% 2.0% 2.0% 2.3% 2.4% 1.9%
Number of Aircraft in Fleet 1528 1537 1541 1540 1538 1538 1538 1538
Changesinceprior period end 38 9 4 -1 -2 -2 0 0
Fuel Price / gallon $3.08 $3.10 $3.03 $2.94 $2.99 $3.02 $3.05 $3.07
ASMs / gallon 60.5 61.2 61.3 61.6 61.7 61.5 61.3 61.6
Fuel cost as % of OpEx 34.9% 34.7% 33.8% 34.3% 33.9% 34.2% 34.6% 34.2%
Revenue & Costs / ASM
Yield (cents) 16.49 17.03 17.34 16.84 17 17.05 17.53 18.02
Y/Y change(%) 2.0% 3.2% 6.5% 2.0% 1.9% 3.4% 2.8% 2.8%
Historical Projected

26. Risk Overview

27. September 2014
Risk Overview
Execution Risk Limited- AAL Already Outpaces UAL and DAL

28. September 2014
Risk Overview
General Risk Overview
Union Integration Fuel Price Risk Labor Cost Control
 Association of
Professional Flight
Attendants voted last
Wednesday and
reached a 5-year
agreement with AAL.
 Integration issues
between LCC-AMR
unions resolved with
this.
 AAL has invested in
newer and more
comfortable planes to
keep up with
competition and lower
fuel consumption.
 Fuel costs represent
~35% of OpEx but
should approach 32-
33% by 2016.
 Contract lasting through
2019 to be signed in
December- includes
modest 2% pay raises
and shortening of pay
ladder.
 Overall should improve
quality of life for
personnel.

29. September 2014
Conclusion
Investors aren’t Seeing the “New American”
Low Valuation
Strong operational
success
Profitability gains
Investors are waiting to
buy AAL because they are
afraid its recent merger
will fail.
In reality, AAL has already
begun to exhibit signs of
merger success and could
end up being the star of
the industry.

30. American Airlines Group (AAL)
Appendix
September 30, 2014
Research Team
Parker Kim, Senior Director
Mark Albin, Senior Analyst
Charlene Shu, Junior Analyst
Christopher Boyd, Analyst
Daniel Chen, Analyst
Karsic Ma, Analyst

31. September 2014
Valuation Overview
Revenue > EBIT Projections
2013A 2014E 2015E 2016E
Total Passenger Reveue 35,542 37,557 39,525 41,477
Y/Y change(%) 4.7% 5.7% 5.2% 4.9%
Cargo 830 861 888 897
Y/Y change(%) 0.1% 3.7% 3.1% 1.0%
Other 4,047 4,612 4,913 5,060
Y/Y change(%) 5.3% 14.0% 6.5% 3.0%
Total Operating Revenues 40,419 43,030 45,326 47,434
Y/Y change(%) 4.7% 6.5% 5.3% 4.7%
Fuel and Related Taxes 11,109 10,945 11,379 11,639
Salaries, Wages, and Benefits 7,887 8,422 8,585 9,146
Regional Op Expense 6,417 6,619 6,653 6,836
D&A 1,132 1,272 1,307 1,344
Aircraft Rent 1,336 1,275 1,215 1,227
Maintenance, Materials, and Repairs 1,927 1,916 1,963 2,002
Other Operating Expenses 8,032 7,734 7,966 8,133
Total Operating Expense 37,840 38183 39068 40327
Y/Y change(%) 0.6% 0.9% 2.3% 3.2%
EBIT 2,579 4847 6258 7107
Y/Y change(%) 158.4% 87.9% 29.1% 13.6%

32. September 2014
Valuation Overview
Revenue > EBIT Projections
2013A 1Q14A 2Q14A 3Q14A 4Q14E 2014E 2015E 2016E
Operating Statistics
RPMs 215,541 50,886 57,194 58,642 53,518 220,240 225,526 230,262
Y/Y change(%) 2.7% 1.7% 2.5% 2.1% 2.4% 2.2% 2.4% 2.1%
ASMs 259,914 63,392 68,090 69,119 65,232 265,833 272,213 277,385
Y/Y change(%) 2.1% 2.0% 3.1% 2.0% 2.0% 2.3% 2.4% 1.9%
Number of Aircraft in Fleet 1528 1537 1541 1540 1538 1538 1538 1538
Changesinceprior period end 38 9 4 -1 -2 -2 0 0
Fuel Price / gallon $3.08 $3.10 $3.03 $2.94 $2.99 $3.02 $3.05 $3.07
ASMs / gallon 60.5 61.2 61.3 61.6 61.7 61.5 61.3 61.6
Fuel cost as % of OpEx 34.9% 34.7% 33.8% 34.3% 33.9% 34.2% 34.6% 34.2%
Revenue & Costs / ASM
Yield (cents) 16.49 17.03 17.34 16.84 17 17.05 17.53 18.02
Y/Y change(%) 2.0% 3.2% 6.5% 2.0% 1.9% 3.4% 2.8% 2.8%
PRASM (cents) 13.67 13.67 14.57 14.28 13.95 14.13 14.53 14.96
Y/Y change(%) 2.6% 2.9% 5.9% 2.2% 2.3% 3.3% 2.8% 3.0%
CASM (cents) 9.13 9.75 9.31 9.15 9.46 9.46 9.38 9.57
Y/Y change(%) -2.5% 3.7% 2.4% 2.1% 2.1% 3.6% -0.8% 2.0%
Margins
EBIT Margin 8.1% 5.9% 14.5% 14.3% 10.6% 11.3% 13.8% 15.0%
Y/Y change(bps) 443bps 294bps 456bps 327bps 274bps 274bps 250bps 120bps
EBITDAR Margin 14.2% 12.2% 20.1% 20.0% 16.9% 17.2% 19.4% 20.4%
Y/Y change(bps) 459bps 294bps 415bps 305bps 266bps 298bps 218bps 103bps
Historical Projected

33. September 2014
Appendix
 http://online.wsj.com/articles/american-airlines-flight-attendants-reach-tentative-agreement-1411164253
 http://www.dallasnews.com/business/airline-industry/20140919-american-airlines-reaches-tentative-agreement-with-flight-
attendants-union.ece
 https://www.iata.org/pressroom/facts_figures/fact_sheets/Documents/fuel-fact-sheet.pdf
 http://marketrealist.com/2014/07/why-american-us-airways-merger-was-conditional/
 http://www.aa.com/i18n/amrcorp/corporateInformation/facts/measurements.jsp
 http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9MjI0MDU2fENoaWxkSUQ9LTF8VHlwZT0z&t=1
 http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9NTQyODc4fENoaWxkSUQ9MjMzMjk3fFR5cGU9MQ==&t=1
 http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9NTQ2NTEwfENoaWxkSUQ9MjM4MDU0fFR5cGU9MQ==&t=1
 http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9NTU1MzM4fENoaWxkSUQ9MjUyMDU1fFR5cGU9MQ==&t=1
 http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9NTU1MzY0fENoaWxkSUQ9MjUyMDg4fFR5cGU9MQ==&t=1
 http://aviationblog.dallasnews.com/2013/03/ceos-american-airlines-us-airways-will-bring-nothing-but-good-things.html/

34. September 2014
Appendix

35. September 2014
Appendix

36. September 2014
Appendix

37. September 2014
DO NOT WRITE OVER, TEMPLATE SLIDE
DON’T EVEN THINK ABOUT IT MISTER