(Reuters) - American Airlines, the third-largest U.S. carrier, and its parent AMR Corp filed for bankruptcy protection on Tuesday to cut labor costs in the face of high fuel prices and dampened travel demand.
AMR, which replaced its chief executive in the move, had been mired for years in fruitless union negotiations, complaining all the while that it shoulders higher labor costs than rival domestic and foreign carriers that have already restructured in bankruptcy.
American Airlines, once the largest U.S. carrier, is now third behind United Continental Holdings Inc's United Airlines and Delta Air Lines Inc, both of which used Chapter 11 to cut costs and later found merger partners.
"The world changed around us," incoming Chief Executive Tom Horton told reporters on a conference call.
"It became increasingly clear that the cost gap between us and our competitors was untenable," he said.
AMR named Horton as chairman and chief executive, replacing Gerard Arpey, who retired.
The airline said it and its regional affiliate American Eagle would continue to operate as usual, fly their normal schedules, honor reservations and make exchanges and refunds.
Ray Neidl, aerospace analyst at Maxim Group, said it was a lack of progress in contract negotiations with pilots that ultimately tipped the carrier into Chapter 11.
Management probably became convinced that it could not achieve its desired cost cuts without bankruptcy and decided to file while it had the cash to sustain itself during restructuring, Neidl said.
"They were proactive, and it was better that they do it now while they have ample cash reserves," Neidl said. "They should have adequate cash reserves to get through this."
American Airlines hopes bankruptcy will cut labor costs, but analysts question whether restructuring under Chapter 11 of the U.S. Bankruptcy Code will address operational shortcomings that have eroded revenue.
"Bankruptcy is not necessarily the be-all, end-all," said Helane Becker, an analyst with Dahlman Rose & Co. "They've got more problems to address in addition to the cost problem."
Shares of AMR, whose passenger planes average 3,000 daily U.S. departures, had slid 45 percent from the end of September through Monday. On Tuesday the shares tumbled 84 percent to close at 26 cents on the New York Stock Exchange.
Stock typically is wiped out when a company exits Chapter 11 and new shares are issued, making the old shares worthless.
AMR shares were halted 28 times on the NYSE on Tuesday for triggering the circuit breaker rule on the exchange, which is activated when a stock moves up or down 10 percent or more in a five-minute period.
Shares of rival airlines rallied on expectations that fares could rise, as AMR kept a lid on industrywide fares in its effort to keep its airplanes full.
United Continental shares closed up 6.33 percent to $17.63, while US Airways Group Inc climbed 4.5 percent to $4.46 and Delta Air Lines rose 4.98 percent to $7.80.
Under its Chapter 11 bankruptcy filing in a New York court, the company listed assets of $24.72 billion and liabilities of $29.55 billion. The company has $4.1 billion in cash.
AMR's top rivals, UAL and Delta, used bankruptcy protection to slash costs and have since bought out other airlines: Delta bought Northwest Airlines, and UAL bought Continental Airlines to form United Continental Holdings.
U.S. Airways and United Airlines sought relief under Chapter 11 bankruptcy in 2002. Delta and Northwest filed in September 2005. Japan Airlines Co Ltd, one of American Airlines' alliance partners, filed for bankruptcy last year.
The bankruptcy proceedings will give AMR more tools in its long-running effort to restructure its operations and balance sheet, according to Jack Williams, a professor of law at Georgia State University.
"There are considerable tax benefits that they will be able to use in a bankruptcy case and they will be able to more aggressively manage their liabilities," Williams said.
Bankruptcy allows the company to force creditors to agree on a plan to reorganize the company, and it also gives AMR the chance to sell flight routes.
But AMR's bankruptcy filing showed few details about how the company would proceed, said Stephen Selbst, a bankruptcy attorney with Herrick, Feinstein LLP in New York.
"What it suggests is they haven't settled on a strategy or they would have been more up front," he said. "It's possible they are still in negotiations and don't want to put something on paper that might prejudice those negotiations."
Experts believe AMR stands to save billions by restructuring its obligations in bankruptcy.
"AMR will no longer have its defined benefit pension plan, helping absorb nearly $7 billion in debt," said Morningstar equity analyst Basili Alukos. "I imagine the company can save between $1.2 billion to $1.5 billion in labor costs, in addition to savings on repair and maintenance and better fuel burn."
AMR said the bankruptcy has no direct legal impact on operations outside the United States. It also said it was not considering debtor-in-possession financing.
While in bankruptcy, AMR becomes vulnerable to unsolicited takeover bids from rival carriers. AMR has said for years that it could thrive as a stand-alone carrier, but some experts believe another airline could make an offer.
Robert Herbst, an independent analyst with AirlineFinancials.com, who is a former pilot with Ozark, TWA and American Airlines, said there was a "95 percent" chance American would be acquired by or merged with another carrier within the next two years.
"US Airways is probably toward the top of the list but it wouldn't be the only (potential merger partner)," he said.
US Airways, which was formed from a 2005 merger with America West Airlines, tried and failed to buy Delta during that airline's bankruptcy. A US Airways representative did not immediately return a phone call seeking comment.
American Airlines said it would remain an active member of the global airline alliance oneworld.
American has struggled with labor costs even though it won massive concessions from unionized workers in 2003 to avoid Chapter 11.
"That deal wasn't good enough," former American CEO Robert Crandall told Reuters. "The other airlines that went bankrupt cut their costs much deeper than American.
"If you look at all of the elements of the problem, they all stem back to costs," he said. "It hasn't cut capacity effectively given the constraints" that labor placed on it.
Contract talks with pilots have dragged on for five years, hitting a wall in recent weeks over wages, benefits and work rules. Negotiations with unionized flight attendants have also lagged.
"While today's news was not entirely unexpected, it is nevertheless disappointing that we find ourselves working for an airline that has lost its way," David Bates, president of the Allied Pilots Association, said in a statement.
A wave of pilot retirements earlier this year prompted speculation American could soon seek Chapter 11 and pilots were exiting to preserve pensions that could be terminated as part of a restructuring.
"The 18-month timeline allotted for restructuring will almost certainly involve significant changes to the airline's business plan and to our contract," Bates said.
An American Airlines pension plan default in bankruptcy would be the largest in U.S. history as its accounts are underfunded by $10 billion, government pension insurers estimated on Tuesday.
AMR said Weil, Gotshal & Manges LLP is lead counsel on the bankruptcy case.
The case is in Re: AMR Corp, Southern District Of New York; No:11-15463.
(Reporting by Kyle Peterson in Chicago, Caroline Humer and Matt Daily in New York, Tom Hals in Wilmington, Karen Jacobs in Atlanta, John Crawley in Washington, John D. Stoll in Detroit, Chuck Mikolajczak in New York and Tanya Agrawal in Bangalore; Editing by Gopakumar Warrier, Maureen Bavdek, John Wallace, Derek Caney and Carol Bishopric)