As I predicted back in January, American Airlines has now selected ViaSat over Gogo to equip its next batch of 200 new 737 aircraft. However, Gogo rejected American’s notification that “ViaSat offers an in-flight connectivity system that materially improves on Gogo’s air-to-ground system” which led American to file a petition for declaratory judgment to enforce its rights under the contract with Gogo.
The clause in dispute is 13.5.2 which reads as follows (with certain confidential information redacted):
With respect to each of the Fleet Types, if at any time after the [***] of the Trigger Date for such Fleet Type (A) an in-flight connectivity services provider other than Aircell offers a connectivity service (B) that provides a material improvement in connectivity functionality [***] (C) such that American reasonably believes that failing to offer such service to passengers on such Fleet Type would likely cause competitive harm to American by [***], (D) such competitive system is installed and in commercial operation on [***], and (E) American has completed sourcing processes with respect to the competitive offering sufficiently rigorous such that American can validate the technology, functionality and feasibility of the competitive offering and provide objective system performance and functionality criteria to Aircell for its use in determining whether it wishes to submit a proposal as contemplated below, then American may provide written notice thereof (including such criteria) to Aircell. In such event, Aircell will have the opportunity to submit a proposal to provide such service to American, which proposal will include, without limitation, proposed terms regarding pricing, system functionality and implementation dates, within [***] after receipt of such notice, and if Aircell timely submits such proposal then American will in good faith consider such proposal. If American reasonably determines that Aircell’s proposal is at least as favorable as the competitor’s offering, this Agreement will be amended to incorporate such additional or replacement offering or functionality and the agreed upon terms. If Aircell declines or fails to submit a proposal to American within such [***], or if American reasonably determines that Aircell’s proposal is not as favorable as the competitor’s offering, then American may elect to termination this Agreement with respect to such Fleet Type. Such election must be made by providing at least [***] advance notice thereof to Gogo, and in such event this Agreement will terminate as and to the extent and otherwise in accordance with American’s termination notice. Notwithstanding anything to the contrary contained herein, American shall not be required to provide to Aircell any information that American may not disclose pursuant to confidentiality obligations to any third party.
It seems that Gogo could only have based its rejection of American’s notice on an assertion that either ViaSat’s service is not a “material improvement” (over basic ATG!) or that it is not in “commercial operation” but neither rationale appears likely to hold up in court. Moreover, the competition to equip American’s next gen 737 fleet has been going on for the last six months or more and Gogo has already offered 2Ku to American in this competition. In fact, according to Runway Girl Network, American told Gogo some time ago to stop working on the STCs needed to install 2Ku on American’s new planes.
UPDATE (2/18): According to Runway Girl Network (although not specified in Gogo’s public filings), the suit “covers approximately 200 of the carrier’s 737 aircraft known as the ‘pre-Apollo’ fleet”, which are older aircraft (delivered before 2009) “flying with ATG today and no in-seat IFE screens.” A key difference between these older aircraft and American’s decision to desire to use ViaSat on future deliveries, is that Clause 13.5.2 references a different “Trigger Date” for each “Fleet Type” and so it seems likely that the time period, after which a termination notice can be issued for the new aircraft deliveries, has not yet expired, and American may therefore not have the right to terminate the Agreement in respect of its new aircraft fleet at this point in time. Conversely, American certainly has the right to terminate the older aircraft even though for some of them, with limited remaining lifespan, it may not be economic to retrofit with satellite communications.
So I’m forced to conclude that in reality, Gogo is simply trying to delay American’s decision to select ViaSat for future aircraft, probably threatening litigation as it initiated (and lost) against Southwest when it purchased AirTran and switched that fleet of Gogo-equipped aircraft to Global Eagle (Delta ultimately purchased 88 of the 128 aircraft which remained on Gogo). And in response, American seems to have decided that it would go nuclear by issuing a termination notice on older aircraft, and a public lawsuit, in order to force Gogo’s hand. However, Gogo made a further filing on Tuesday Feb 17, stating that it had rescinded its prior letter which had questioned American’s termination notice (on the grounds of “system performance and functionality of the competitive technology”), and claimed that as a result American’s suit was now “moot,” presumably in an effort to limit the public airing of the two companies’ disagreements.
After all, if American did not exercise its rights under Clause 13.5.2 of the agreement, it appears that it would have to use Clause 13.5.1, which contemplates a payment to Gogo apparently equal to at least a year’s revenue per plane:
American will have the right to terminate this Agreement at any time on or after the [***] of the Trigger Date for the last retrofitted Fleet Type, by giving [***] written notice and paying Aircell an amount equal to the amount obtained by multiplying (A) [***] by (B) Aircell’s [***] from Connectivity Revenues earned by Aircell in the year ending on the applicable anniversary of the Trigger Date.
Gogo has declared that it now plans “to submit a competing proposal to install our latest satellite technology – 2Ku – on this fleet”. However, given that American has already considered 2Ku with regard to “system functionality and implementation dates” for its newer aircraft, Gogo’s only option to improve its offer would be to reduce the pricing significantly. As I’ve noted in conference presentations, ViaSat is providing significantly better service, to 4-5 times more passengers, with a revenue per boarded passenger of around $0.50, compared to the $0.80 that Gogo currently generates from its ATG network. In other words, ViaSat’s revenue per Mbyte is something like a factor of 10 lower than Gogo generates at present (and remember Gogo has told investors that the cost of capacity for 2Ku is similar to ATG-4, albeit with future reductions expected as Ku HTS satellite capacity becomes cheaper).
It therefore seems that Gogo will lose either way: it either loses American’s old and/or new aircraft, setting the scene for a complete termination of the existing contract if ViaSat proves to offer a significantly superior service, or it wins the deal by offering dramatically lower pricing, which will reduce its revenue per boarded passenger and increase its capacity costs on these new aircraft, and would presumably provide a benchmark for a renegotiation of the deal covering the rest of the American fleet. That would be a far different trajectory from the increases to as much as $4-$5 per boarded passenger that Gogo set out as its long term objective in previous analyst days.
However, it remains to be seen how and whether American will ultimately be able to proceed with its original plan to install ViaSat on new aircraft deliveries, or whether we are set for a long and ugly stalemate between American and Gogo over how these aircraft will be equipped.