Analysis of UAL ATSB Application


Sep 12, 2002
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?
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.


Aug 21, 2002
I'll try and play devil's advocate here and give a counterpoint to the BTC application; I'm not sure I agree with all their points, though I do feel that the loan guarantee program is a good thing when applied to airlines that merely face a short-term liquidity crisis but have made the challenging moves towards long-term sustainable business models.

Analysis A.1:
I'm not sure how much credence I give to a loan restructuring from KfW; after all, they are essentially an arm of the German government AND offer much of the export financing for Airbus. To quote their PR, KfW extends long-term loans for exports by German companies and for projects in Germany and abroad in which a German company has an interest. Financial problems at UAL, one of Airbus' largest customers, are not good for the German economy, and KfW supports the German economy with tailor-made financing. KfW has a further interest in that Lufthansa is also a German company, and UAL is one of LH's most important partners.

As the second-largest U.S. carrier (actually, third-largest domestic U.S. carrier by RPM's and ASM's), a liquidation of UAL would certainly be disruptive to air travel; however, the U.S. economy successfully withstood the failures of two major airlines (Pan Am & Eastern) in the early 1990's. In the absence of United, the other airlines would certainly pick up the slack given the market opportunity this would present for them. Continued weak demand for business travel would give the remaining major network carriers little additional pricing power.

Analysis A.2:
Well, the ATSB has already set a precedent with AWA, ATAH, U/UAWGQ, and FRNT, as well as VNGD and National. But in all of those cases, the airlines which successfully attained a loan guarantee were able to demonstrate what (at least when their applications were approved) looked to be a business plan that could support repayment of the loan. It wasn't about low-fare carriers versus network carriers; Frontier's not really a low-fare carrier, and neither was AWA at the time the guarantee was approved. Vanguard and National weren't approved because their business plans didn't make sense even before 9/11. If UAL management has come up with a plan that works under REASONABLE assumptions, then the company ABSOLUTELY should receive the loan guarantee. No question about it! But right now, only management, the ATSB, and (probably) highly-placed union officials know what those assumptions are.

Analysis A.3:
This is sort of a non-sequitur; business airfares (and, moreover, airfares in general) have little to do with labor costs at most airlines. Airlines tend to charge what customers are willing to pay (that's what yield management is all about) in most markets. The only link between labor costs and airfares is really in capacity; airlines will add capacity when they feel they can make a profit on a route (lower labor, fuel, etc. costs help here) and reduce capacity (if permitted by contracts) in markets where they are losing money. But labor costs, reduced or not, won't change what United can charge.

Analysis A.4:
This is likely true; however, how does a failure to properly resize or restructure *with* a loan guarantee allow the company to be successful in the long run? If the company is still unprofitable post-guarantee, it still files for Chapter 11/7 AND the taxpayers are out $1.8 billion. It's clear, though, that UAL and its competitors do need to better match their capacity with current market reality.

Analysis A.5:
Absolutely right. I'm not sure the ATSB ever said anything about corporate governance, though?

Analysis B.1:
Well, the risk isn't really applicable, given that UAL seems to have lined up $2 billion in DIP financing as a contingency. I do believe that it's unlikely that a bankruptcy judge will throw out union contracts simply because the company asks for that; I think management does have to present a convincing business case. As for a Chapter 7 liquidation, well, I suppose a loan guarantee postpones it if management and labor can't agree on pay rates/work rules. Most of the small communities served by United Express are served by other carriers through their hubs. And the appropriate channel for support of air service to smaller communities is the EAS program, not the ATSB.

Analysis B.2:
A loan guarantee for United might very well push American into bankruptcy! With $2 billion in cash, United can keep more capacity in the market, continuing downward pressure on yields and weakening its (somewhat) healthier competitors like AMR. I don't see how the industry keeps itself from dropping off the cliff without rationalizing capacity, whether or not UAL gets a guarantee or files for bankruptcy.

Analysis B.3:
This is truly the purview of the U.S. Congress, not the ATSB. But how does a loan guarantee to United (and none to DAL, AMR, CAL, NWAC, since they never applied) in that circumstance give stability to the industry?

In any case, it's heartening to see that the company issued additional clarification today regarding the seeming discrepancy between the labor cost savings achieved and the stated $5.8 billion goal. I have a few concerns about what's entailed in revenue enhancement considering the ability of all the airlines to enhance revenue in the current market.

Best of luck guys -- it looks like it is going to be close. I hope that your leadership (both management and union) manages to pull the rabbit out of the hat here. I know way too many people out of work already :/


Oct 29, 2002
Given that this analysis is from the Business Travel Coalition, here is there argument that trumps all others: What result from the loan application would result in the greatest overcapacity problem for the longest time?

This isn't exactly an impartial analysis.