ohcaptainron
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Business Travel Coalition
Supplemental Analysis Of The UAL Application To The ATSB
November 17, 2002
Considerations And Non-Considerations
In Evaluating UAL’s Application to the ATSB
United Airlines’ (UAL) loan guarantee application to the Air Transportation Stabilization Board (ATSB) has generated much commentary from airline executives, Wall Street analysts and industry consultants. Most commentators either argue that UAL should reorganize inside a bankruptcy process or that a Chapter 11 filing is inevitable because, in their view, the ATSB will not approve UAL’s application.
Some of these observers no doubt truly believe that a financial restructuring inside bankruptcy is the best strategy for the airline to remake itself for the benefit of employees, customers and future shareholders. Still others want to make a religion out of free market principles insisting that there should be no government intervention, that UAL should enter bankruptcy and let “market forces†work their magic. However, a problem with this position is that both an ATSB loan guarantee and Chapter 11 protection represent a form of government intervention.
Other industry participants wander into inappropriate areas when, for example, they contend that under Chapter 11, UAL would shed more routes and aircraft and thus help address an industry-wide over capacity problem. Likewise, some airline CEOs speak out publicly that UAL’s application is without any merit whatsoever while privately favoring a UAL Chapter 11 reorganization as a lever to secure greater labor concessions at their own airlines. Other airlines simply hope to strengthen their competitive positions through a liquidating slide for UAL into Chapter 7 from Chapter 11 causing, among other fallouts, a competitively hollowed Star Alliance.
No matter how one views the intrinsic value of these arguments or motivations, they have little to do with the legislation Congress passed in 2001 setting up the ATSB. In BTC’s view, these arguments should not frame a debate over one airline’s application to the ATSB. Congress only intended the ATSB to provide financial stabilization via loan guarantees for airlines that could demonstrate 1) their need is tied in part or in whole to 9/11, 2) they have insufficient access to financial markets and 3) they have a financial restructuring plan that shows how the loan would be repaid.
The first two legislative criteria are apparently non-issues for UAL, and one must assume that vis-à -vis criterion number 3, that the airline has shown in its recently amended application just how a loan would be repaid. An ATSB decision may indeed come down to judgment calls at the margins. For example, the ATSB just last week asked UAL additional questions to better understand the critical assumptions underlying future revenue projections contained in the airline’s application. Those assumptions, and their evaluation by the ATSB, necessarily encompass subjective assessments based in part upon one’s understanding of the airline industry and an analysis of its likely future development.
If though, a loan guarantee decision were to be made at the margin, then the process should encompass additional analysis. One way to think about such a decision is to assess the both the publicized and otherwise knowable risks associated with each option available.
OPTION A - UAL secures the loan guarantee and restructures OUTSIDE Chapter 11.
Risk 1 - UAL untimely fails and cannot repay some part of the loan.
ANALYSIS - The German bank Kreditanstalt fuer Wiederaufbau, which recently restructured a $500M loan with UAL over a multi-year period, apparently is positive on the company. That loan restructuring conveys credibility to UAL as a viable long-term industry participant from an outside organization that is expert in corporate lending transactions. To the extent that the ATSB requires an additional level of comfort, it could seek a greater number of warrants from UAL to offset perceived risk.
Importantly, the U.S. marketplace for travel and tourism products and services comprises hundreds of billions of dollars in annual sales. As the number 2 carrier in the U.S., UAL is a fulcrum over these consumer and business expenditures. When measured against this larger economic impact, it would appear that the inherent risk in a loan guarantee is more proportionate to the benefits derived from this important economic engine.
Risk 2 - But such a decision would set a precedent.
ANALYSIS - This is not an arbitrary government decision that can be pointed to when a corporation stumbles in the future. Congress deliberately set up this program to stabilize those carriers impacted by 9/11, cut off from public capital markets and able to reasonably demonstrate they can repay a loan.
Risk 3 - If UAL does not drive labor costs down as far as possible, and drive labor productivity levels up as far as possible, business airfares would be at higher levels than necessary.
ANALYSIS - If this were 3 or 4 years ago, then this would be a risk. This risk today is all but offset by the participation of 6 major network airline competitors and the advance of low-fare airlines that have doubled their national market share during the past 10 years. Moreover, the low-fare airlines are poised for aggressive growth. This disciplining force combined with myriad other technological and non-technical product substitutes to a seat on UAL will prevent UAL from securing the pricing power it enjoyed in the late 1990s.
Risk 4 - Outside Chapter 11, UAL might not downsize as much as it would inside leaving the industry with more capacity than it needs.
ANALYSIS – As referenced earlier, Congress did not intend that this program would, in effect, result in government micro managing of the airline industry’s capacity or structure. Moreover, why would it be good or equitable public policy to force one airline to help its competitors with an industry-wide capacity problem.
Risk 5 - Outside of Chapter 11, UAL would not be able to replace its ineffective governance structure wherein 2 union leaders have supra powerful board seats.
ANALYSIS - This seems to be far outside the purview of the ATSB.
OPTION B - UAL does not secure the loan guarantee and restructures INSIDE Chapter 11.
Risk 1 - UAL still requires the $2B for financial stabilization, but cannot secure it in the public capital markets, and cannot secure additional concessions from labor, ultimately forcing UAL into Chapter 7 liquidation.
ANALYSIS – Some argue that union contracts could be nullified in bankruptcy thereby enabling a greater ratcheting down of pay rates and benefits. This is pure myth. UAL management would have to enter into a negotiation process with each of its labor groups. Having just lost all their UAL stock, and much of their power, workers and their unions would not likely look favorably upon a senior management team they blame for most of the airline''s problems. Negotiations would likely be more contentious than usual. Importantly, there is not a single case of where there was labor – management animosity during a period of bankruptcy where the airline survived (e.g. Eastern Airlines).
UAL and the other major network airlines serve the small and medium size communities. The low-fare airline segment does not. Service from a collapsed UAL might be quickly filled in by other airlines in the largest markets, but the heartland will be impacted more seriously. These are communities whose economic vitality depends upon air service access to the important business centers in the U.S. and the world.
Risk 2 - A UAL bankruptcy produces a 20% to 25% cost gap between UAL and AA, and AA’s efforts to leverage a UAL cost advantage with its unions to lower costs does not yield intended results forcing AA to seek bankruptcy protection.
ANALYSIS - Never in our commercial history has the U.S. had two major airlines--two powerful national economic engines--in bankruptcy at the same time. On one level UAL and AA bankruptcies could harm the enterprises, employees, customers, debt holders, creditors and shareholders. On another level, businesses, communities and the national economy could be harmed. We are in uncharted territory and much is at stake.
Beyond AA, a UAL bankruptcy filing would ripple through the industry. DL, NW and CO would likely not be able to continue business as usual while UAL shed costs and liabilities in bankruptcy. Instead, it is most probable that every one of these carriers would either seek bankruptcy or pursue a risky labor confrontation to match a restructured UAL.
Customer service in a bankrupt industry would grow more inconsistent, and air transportation services would be withdrawn or sharply reduced at an accelerated rate in many markets, and as noted above, small and mid-sized communities would be hardest hit. In the longer run, two or three superpower airlines would likely emerge to exercise monopoly-pricing power over corporate buyers of air transportation services.
Risk 3 - UAL and other major network airlines implode at the same time the U.S. goes to war with Iraq.
ANALYSIS - Bankruptcies, labor-management animosity, upward fuel spikes and a higher terror alert status due to a resurgent Osama bin Laden and al Qaeda cause large scale airline failures. Do the U.S. government and American people really want to run this risk and have to deal with the fallout in the middle of a war with Iraq and perhaps attacks from a variety of terrorists groups for a loan guarantee of $1.8B!? Does the U.S. government even have a contingency plan should this scenario develop?
Conclusion
UAL has to restructure and stabilize its financial platform before its new CEO can turn his attention to long-term strategy to include product, pricing and marketing strategy components. The important question for customers seems to be where can that stabilization be best accomplished--inside or outside of bankruptcy? Providing that UAL''s loan application is reasonably sufficient on its merits, in BTC''s view, the risks of providing UAL with a loan guarantee are few, and low. Conversely, the risks of rejecting UAL''s application are many, and high. UAL should be allowed to restructure outside of bankruptcy protection.
…
Supplemental Analysis Of The UAL Application To The ATSB
November 17, 2002
Considerations And Non-Considerations
In Evaluating UAL’s Application to the ATSB
United Airlines’ (UAL) loan guarantee application to the Air Transportation Stabilization Board (ATSB) has generated much commentary from airline executives, Wall Street analysts and industry consultants. Most commentators either argue that UAL should reorganize inside a bankruptcy process or that a Chapter 11 filing is inevitable because, in their view, the ATSB will not approve UAL’s application.
Some of these observers no doubt truly believe that a financial restructuring inside bankruptcy is the best strategy for the airline to remake itself for the benefit of employees, customers and future shareholders. Still others want to make a religion out of free market principles insisting that there should be no government intervention, that UAL should enter bankruptcy and let “market forces†work their magic. However, a problem with this position is that both an ATSB loan guarantee and Chapter 11 protection represent a form of government intervention.
Other industry participants wander into inappropriate areas when, for example, they contend that under Chapter 11, UAL would shed more routes and aircraft and thus help address an industry-wide over capacity problem. Likewise, some airline CEOs speak out publicly that UAL’s application is without any merit whatsoever while privately favoring a UAL Chapter 11 reorganization as a lever to secure greater labor concessions at their own airlines. Other airlines simply hope to strengthen their competitive positions through a liquidating slide for UAL into Chapter 7 from Chapter 11 causing, among other fallouts, a competitively hollowed Star Alliance.
No matter how one views the intrinsic value of these arguments or motivations, they have little to do with the legislation Congress passed in 2001 setting up the ATSB. In BTC’s view, these arguments should not frame a debate over one airline’s application to the ATSB. Congress only intended the ATSB to provide financial stabilization via loan guarantees for airlines that could demonstrate 1) their need is tied in part or in whole to 9/11, 2) they have insufficient access to financial markets and 3) they have a financial restructuring plan that shows how the loan would be repaid.
The first two legislative criteria are apparently non-issues for UAL, and one must assume that vis-à -vis criterion number 3, that the airline has shown in its recently amended application just how a loan would be repaid. An ATSB decision may indeed come down to judgment calls at the margins. For example, the ATSB just last week asked UAL additional questions to better understand the critical assumptions underlying future revenue projections contained in the airline’s application. Those assumptions, and their evaluation by the ATSB, necessarily encompass subjective assessments based in part upon one’s understanding of the airline industry and an analysis of its likely future development.
If though, a loan guarantee decision were to be made at the margin, then the process should encompass additional analysis. One way to think about such a decision is to assess the both the publicized and otherwise knowable risks associated with each option available.
OPTION A - UAL secures the loan guarantee and restructures OUTSIDE Chapter 11.
Risk 1 - UAL untimely fails and cannot repay some part of the loan.
ANALYSIS - The German bank Kreditanstalt fuer Wiederaufbau, which recently restructured a $500M loan with UAL over a multi-year period, apparently is positive on the company. That loan restructuring conveys credibility to UAL as a viable long-term industry participant from an outside organization that is expert in corporate lending transactions. To the extent that the ATSB requires an additional level of comfort, it could seek a greater number of warrants from UAL to offset perceived risk.
Importantly, the U.S. marketplace for travel and tourism products and services comprises hundreds of billions of dollars in annual sales. As the number 2 carrier in the U.S., UAL is a fulcrum over these consumer and business expenditures. When measured against this larger economic impact, it would appear that the inherent risk in a loan guarantee is more proportionate to the benefits derived from this important economic engine.
Risk 2 - But such a decision would set a precedent.
ANALYSIS - This is not an arbitrary government decision that can be pointed to when a corporation stumbles in the future. Congress deliberately set up this program to stabilize those carriers impacted by 9/11, cut off from public capital markets and able to reasonably demonstrate they can repay a loan.
Risk 3 - If UAL does not drive labor costs down as far as possible, and drive labor productivity levels up as far as possible, business airfares would be at higher levels than necessary.
ANALYSIS - If this were 3 or 4 years ago, then this would be a risk. This risk today is all but offset by the participation of 6 major network airline competitors and the advance of low-fare airlines that have doubled their national market share during the past 10 years. Moreover, the low-fare airlines are poised for aggressive growth. This disciplining force combined with myriad other technological and non-technical product substitutes to a seat on UAL will prevent UAL from securing the pricing power it enjoyed in the late 1990s.
Risk 4 - Outside Chapter 11, UAL might not downsize as much as it would inside leaving the industry with more capacity than it needs.
ANALYSIS – As referenced earlier, Congress did not intend that this program would, in effect, result in government micro managing of the airline industry’s capacity or structure. Moreover, why would it be good or equitable public policy to force one airline to help its competitors with an industry-wide capacity problem.
Risk 5 - Outside of Chapter 11, UAL would not be able to replace its ineffective governance structure wherein 2 union leaders have supra powerful board seats.
ANALYSIS - This seems to be far outside the purview of the ATSB.
OPTION B - UAL does not secure the loan guarantee and restructures INSIDE Chapter 11.
Risk 1 - UAL still requires the $2B for financial stabilization, but cannot secure it in the public capital markets, and cannot secure additional concessions from labor, ultimately forcing UAL into Chapter 7 liquidation.
ANALYSIS – Some argue that union contracts could be nullified in bankruptcy thereby enabling a greater ratcheting down of pay rates and benefits. This is pure myth. UAL management would have to enter into a negotiation process with each of its labor groups. Having just lost all their UAL stock, and much of their power, workers and their unions would not likely look favorably upon a senior management team they blame for most of the airline''s problems. Negotiations would likely be more contentious than usual. Importantly, there is not a single case of where there was labor – management animosity during a period of bankruptcy where the airline survived (e.g. Eastern Airlines).
UAL and the other major network airlines serve the small and medium size communities. The low-fare airline segment does not. Service from a collapsed UAL might be quickly filled in by other airlines in the largest markets, but the heartland will be impacted more seriously. These are communities whose economic vitality depends upon air service access to the important business centers in the U.S. and the world.
Risk 2 - A UAL bankruptcy produces a 20% to 25% cost gap between UAL and AA, and AA’s efforts to leverage a UAL cost advantage with its unions to lower costs does not yield intended results forcing AA to seek bankruptcy protection.
ANALYSIS - Never in our commercial history has the U.S. had two major airlines--two powerful national economic engines--in bankruptcy at the same time. On one level UAL and AA bankruptcies could harm the enterprises, employees, customers, debt holders, creditors and shareholders. On another level, businesses, communities and the national economy could be harmed. We are in uncharted territory and much is at stake.
Beyond AA, a UAL bankruptcy filing would ripple through the industry. DL, NW and CO would likely not be able to continue business as usual while UAL shed costs and liabilities in bankruptcy. Instead, it is most probable that every one of these carriers would either seek bankruptcy or pursue a risky labor confrontation to match a restructured UAL.
Customer service in a bankrupt industry would grow more inconsistent, and air transportation services would be withdrawn or sharply reduced at an accelerated rate in many markets, and as noted above, small and mid-sized communities would be hardest hit. In the longer run, two or three superpower airlines would likely emerge to exercise monopoly-pricing power over corporate buyers of air transportation services.
Risk 3 - UAL and other major network airlines implode at the same time the U.S. goes to war with Iraq.
ANALYSIS - Bankruptcies, labor-management animosity, upward fuel spikes and a higher terror alert status due to a resurgent Osama bin Laden and al Qaeda cause large scale airline failures. Do the U.S. government and American people really want to run this risk and have to deal with the fallout in the middle of a war with Iraq and perhaps attacks from a variety of terrorists groups for a loan guarantee of $1.8B!? Does the U.S. government even have a contingency plan should this scenario develop?
Conclusion
UAL has to restructure and stabilize its financial platform before its new CEO can turn his attention to long-term strategy to include product, pricing and marketing strategy components. The important question for customers seems to be where can that stabilization be best accomplished--inside or outside of bankruptcy? Providing that UAL''s loan application is reasonably sufficient on its merits, in BTC''s view, the risks of providing UAL with a loan guarantee are few, and low. Conversely, the risks of rejecting UAL''s application are many, and high. UAL should be allowed to restructure outside of bankruptcy protection.
…
