3 Simple Lessons To Learn From AMR's Bankruptcy Filing

| About: American Airlines (AAL)

There is a lot going on with American Airlines (AMR) these days. The stock has been a loser since 2007. In its heydays, AMR was trading around $40/share. The financial crises crushed the stock just like a bug. AMR went all the way down to sub-$5, losing near 90% of its market cap. The stock bounced back in 2010 to near $10, but that was a dead cat bounce.

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2011 has been a disastrous year for the shareholders. The stock kept slipping, and literally collapsed after it announced the Chapter 11 petition to reorganize its debt. Since the stock became a penny stock, it has seen a massive amount of trading. The trading had to be halted several times throughout Wednesday, as the circuit breaker rule imposes a five-minute trading pause, if the stock moves more than 10% in the preceding five-minute period. The volatility will probably stay high, until the stock stabilizes at a value of “0”. Shareholders might get what is left after the creditors, but looking at AMR’s balance sheet, I do not see anything left for them. I think investors can still benefit from AMR’s bankruptcy filing, by revisiting these 3 essential rules:

Lesson 1: Do NOT invest in companies that keep reporting negative earnings. The last time AMR reported profits was in 2007, where the EPS was reported as $2.06. In 2006, the reported EPS was $1.13. Those were the only years in the last decade that AMR reported some profits. Since 2007, the company reported EPS of -$7.98, -$4.99, -$1.41 in 2008, 2009, and 2010, respectively. The trailing twelve month EPS was -$2.94. Always look for companies that consistently report positive earnings. Why take the risk? There are several stocks in the market, which you can buy at a price below their fair-value.

Lesson 2: Whenever, there is extreme volatility in a stock, stay away from it. Before AMR announced its bankruptcy filing, the stock was moving like a roller-coaster. Since August, almost every week, AMR had its place among either the premarket gainers or losers. If the investors had sold their shares during that period, when the volatility was high, they could have saved a bunch of money. Although it was moving up and down in vicious cycles, the stock was trading between $2 - $3 ranges throughout August and September. That was a strong avoid signal to many investors looking for safety.

Lesson 3: Do NOT put your eggs into one basket – particularly to the company you work for. Diversification is the key to minimize the risk. The employees of American Airlines will be hit twice. First, there is a possibility that they might lose their jobs. Obviously if AMR goes out of business, its workers will follow. Next, their retirement benefits, which are more or less attached to the company’s cash flow, will also disappear. Thus, even without buying any shares in the company, the worker’s destiny is in line with the company’s success. If your portfolio is concentrated on your employer’s stock, think twice. Having shares in the company you work for, is surely not a good diversification idea.

Any Hopes for Existing Shareholders?

It is surely not a good idea to buy any stock with a negative equity. AMR was no exception, even though the stock is trading at a fraction of what it was a year ago. American Airlines’ only hope is to play the “Too Big to Fail” card. It is certain that American Airlines has become too big, but I am not sure whether that is a solid reason to bailout the company. There are several competitors in the airline business such as Delta (NYSE:DAL) and United Continental (NYSE:UAL) which can quickly fill the gap in the airline routes.

However, I still think there is a possibility of government bailout. American Airlines employs near 80,000 employees. If the company goes out of business, the employees would be unemployed. Considering the negative spill-over effects, the termination of AMR’s business operations might have serious affects on the fragile economy. After all, General Motors (NYSE:GM) had several competitors that could have replaced the company, but it was rescued by the state. However, in GM’s case, the existing shareholders did not get anything other than a 1% stake in the restructured automaker. Probably, this would be the most that AMR shareholders could get after the debt restructuring.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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