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For United, bankruptcy might be the cure
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CBS Marketwatch.com - The story behind the numbers
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Stockholders would suffer, but airline might survive
By Jennifer Waters, CBS.MarketWatch.com
Last Update: 8:37 PM ET Aug 16, 2002
CHICAGO (CBS.MW) -- When United Airlines' parent raised the scary
specter of Chapter 11 insolvency this week, the stock plunged.
Employees worried about their jobs.
Passengers fretted about frequent-flier miles and holiday travel plans.
But bankruptcy wouldn't necessarily be a crash landing. In fact, it
could be the saving grace that keeps the nation's second-largest carrier
aloft, say airline analysts and bankruptcy experts.
"United is probably one of the few airlines that would benefit from
bankruptcy," said Blaylock airline analyst Ray Neidl.
Ditto for United's biggest rivals. "Bankruptcy is the best outcome for
the industry," said Credit Suisse First Boston airline analyst James
Higgins. "It is the market working at its best."
Experts say the pros outweigh the cons.
Bankruptcy could leave the airline with little or no debt, a much more
affordable labor force, less expensive aircraft and a new business
model.
It could also bring changes that upset passengers, such as stripping out
the popular frequent-flier program because accumulated miles represent a
heavy liability. And the process itself could be so disruptive that
United passengers move to other carriers.
And stockholders -- including the employees who own 55 percent of the
carrier's shares -- would be left with nothing.
"It's a high-risk maneuver," insisted Howard Seife, chairman of
Chadbourne & Parke's bankruptcy practice, "but it does have the
potential for restructuring UAL and having it come out much healthier
with positive long-term prospects."
Attention-getting announcement
In an unusually bold move, UAL (
<http://money.excite.com/jsp/qt/full.jsp?symbol_search_text=UAL> UAL:
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ext=UAL> news) put the threat of bankruptcy in neon lights on Wednesday
when it said that degenerating industry conditions were forcing it to
look fast for a lifeline.
The Air Transportation Stability Board has one, but it won't consider
UAL's proposal to guarantee $1.8 billion of a $2 billion loan without a
better business plan in place.
"The board did not like our original proposal," UAL spokesman Joe
Hopkins said. "They said we need broader participation from stakeholders
and that we need to go deeper in cutting our expenses over a longer
period."
The company ended the quarter with $2.4 billion in available cash and is
sitting on $3.4 billion in unencumbered assets. It's burning through
about $1 million a day, has must-do capital expenditures of $200 million
through the end of the year and is facing debt payments $300 million due
Nov. 17 and $500 million due Dec. 2.
As it enters the slow fall travel period, its cash burn rate, which
includes operating expenses and fuel costs, will accelerate.
The leadership of the pilots union has agreed to a 10 percent pay cut in
return for stock options and some other some caveats, but union leaders
for mechanics and flight attendants have steadfastly refused. UAL
management will swap a 5 percent cut in pay for options.
The carrier said it will present new cost-savings proposals next week to
its unions and other stakeholders but did not detail them.
Chief Executive Jack Creighton put a tight -- some say impossibly tight
-- 30-day deadline on completing negotiations with stakeholders that
have been going on for 10 months. Meanwhile, the carrier is putting
another knife to its operating costs, including the salaries of
management and other nonunion employees.
"The changes we need to make are urgent, significant and immediate,"
Creighton said in a statement.
Given Creighton's comments, it's likely that UAL is starting over in
even those negotiations that seem completed.
"Unless we lower our costs dramatically, filing for bankruptcy
protection will be the only way we can ensure the company's future and
the continued operation of our airline," he added.
Flying into Chapter 11
A Chapter 11 filing would create an orderly process to keep United
healthy, but with a major restructuring. "The art of Chapter 11 is to
encourage everyone to slow down in the race to get as much as possible,"
said Martin Zohn, a bankruptcy expert and partner at the law firm of
Proskauer Rose.
Bankruptcy, Zohn said, is the "worst possible way" to run a business,
"but sometimes it's the only way to meet the values that everyone has."
The goal of a bankruptcy court, Zohn said, is to shut off the noise and
"create a capital structure that is more sound. Companies don't have to
deal with a gigantic overhanging debt or the cost of the debt." The
code, he said, is tailored for the capital-heavy transportation entities
such as UAL.
Consider some of the changes that would take place:
*
Operations would undergo a sweeping overhaul, from the number of planes
flown to the number of flights to the number of gates -- which carry
heavy leasing costs -- United controls. It is likely United would give
up some of the 187 gates it leases at its five hubs, as well as the
handful it shares with other carriers elsewhere. American (
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ext=AMR> news) made similar moves last week.
*
The current expensive labor contracts would be renegotiated, starting
from scratch. "Other airlines would like to see United roll back their
wages," Blaylock's Neidl said. "When United pays their unions big wages,
other unions go to their carriers and want the same."
*
Outstanding orders for new planes could be canceled or renegotiated, but
airplane debt already in place would have to be paid, Zohn said. An
airline-only clause in the bankruptcy code gives equipment creditors
more protection than others and encourages the two parties to reach
terms quickly.
*
Contracts for anything -- services, equipment, food, etc. -- that are
unwieldy or were written during an entirely different economic climate
can be either tossed all together or altered to reflect the current
state of finances.
The end of the ESOP
Governance is another area that would see drastic change. In 1994, the
pilots and mechanics agreed to an Employee Stock Option Plan that put 55
percent of the carrier's outstanding shares in the hands of its workers.
In return, a member from each union sits on the UAL board of directors.
Wall Street doesn't take kindly to employee representatives on the
board, because they serve both employees and shareholders.
"United is an absolute nightmare from a corporate governance
standpoint," said Credit Suisse analyst Higgins. "The union members are
self-interested parties on the board. The board of directors of any
company should be neutral arbiters of what's best for the company's
long-term viability."
A bankruptcy court is likely to agree.
In fact, it's likely that the entire ESOP plan would be ditched as
employees and non-employee shareholders see the share value disappear in
a bankruptcy filing.
When stock is re-issued after bankruptcy, it goes to the creditors or
private financers as part of their pacts to fund the company. So even
though UAL's stock closed Friday at a pitiful $3.23 -- down from an ESOP
lifetime high of $80 -- if the company stays out of bankruptcy there's
still some value left that can grow again.
And what if it doesn't work?
There's one more reason to avoid bankruptcy protection: Some companies
never come out of it. As UBS Warburg airline analyst Samuel Buttrick
warned, "Don't rule out liquidation - not all bankruptcy re-orgs are
successful. For every Continental, there's an Eastern," he said in a
note to clients.
Eastern failed after filing for Chapter 11, while Continental (
<http://money.excite.com/jsp/qt/full.jsp?symbol_search_text=CAL> CAL:
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ext=CAL> news) emerged to become a strong airline. See
<http://custom.marketwatch.com/custom/excite-com/news-story.asp?guid={A7
0FF01D-3CA8-45E1-8B9E-87FC13F264D7}> related story: Airlines see life
after bankruptcy.
UAL consistently has stated -- and again repeated this week -- that
bankruptcy will happen only as a last recourse.
"This all can be avoided," UAL's Hopkins said. "Both sides have a vested
interest in avoiding bankruptcy.
"We've been working for many months now trying to get our costs down,"
he added. "The gravity of the situation is beginning to sink in with a
lot of people who perhaps didn't recognize it earlier."
Some employees and industry observers who think that Creighton's bell
ringing was nothing more than a threat aimed at forcing negotiations.
"Basically, UAL is putting a big warning in front of the public," said
Seife. "It's a risky thing to announce you're thinking about bankruptcy.
It often becomes a self-fulfilling prophecy. You start down that
slippery slope, and often you just can't stop yourself."
Jennifer Waters is the Chicago bureau chief for CBS.MarketWatch.com.
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