Having failed to secure a federal loan guarantee in time, US Airways has fallen back on the traditional tool of filing for bankruptcy court protection. It could yet spur the industry transformation that has so far failed to take hold.

US Airways, a long-running candidate for failure, has become the first large carrier to file for bankruptcy court protection since 11 September. Within days of its filing, United Airlines says its short-term debt and long-term cost structure means it is considering bankruptcy as a next step, barring drastic restructuring effort.

The US Airways bankruptcy filing finally arrived as it became clear that the carrier could was not going to be able to reach agreements with various vendors, aircraft lessors and holders of other secured debt.

The carrier had been moving rapidly ahead on its plan to cut labour costs by $950 million annually through negotiations with its unions. But its fortunes took a sudden change of course as debt-holders opposed the plan, just days after the airline had gained $465 million in concessions from its pilots, followed by $77 million give-backs from its flight attendants union.

The US Airways restructuring under new chief executive David Siegel was the airline's most dramatic retooling so far in a decade. The carrier is still faced though with the problems of scale that have plagued it for years - US Airways has the cost structure of a big airline, but increasingly it competes with low-cost airlines on its domestic routes.

It is too small to be truly nationwide and too big to be a regional. It is neither a low-fare carrier that could survive at a regional level, nor is it a global airline with an international route network. In many ways it is a relic of the old days when the market was dominated by large regional airlines with names that reflected their geography such as Southern or Eastern.

Old problems

US Airways has faced these problems since the 1980s, first trying a merger and then a short-lived international link with British Airways, whose investment helped the carrier out of difficulty last time. US Airways struggled with the situation until 1996, when former United Airlines head Stephen Wolf entered the scene with plans to cleanse the temple.

After a vigorous international expansion, Wolf arranged the sale of US Airways to United in spring 2000, a transaction that was to have heralded industry consolidation but instead merely coincided with its downturn. Just months after the attacks, Wolf and his team were on the way out and in March Siegel, a Continental Express highflyer was brought in. Just 40 years old, he immediately set about preparing the airline for a restructuring. It had been harder hit than most by the terrorist attacks due to their impact on its East Coast heartland.

Its revenues were severely crimped when security concerns kept its operation at Reagan Washington National Airport near the Capitol Building shut down for three weeks after the attacks. And because it competes with the car and the passenger train, US Airways was more vulnerable than most to the deterrent effect of increased airport security. The "hassle effect" of long waiting lines and intrusive searches at airport checkpoints drove away its passengers. The airline lost $2.1 billion in 2001 and about $500 million in the first half of this year.

When US Airways went into bankruptcy, it had about $500 million in short-term financing and a $200 million investment lined up from David Bonderman's Texas Pacific Group, a veteran of airline reorganisation from its backings of Continental and America West Airlines in their bankruptcies.

US Airways listed assets of about $7.8 billion and liabilities of $10.6 billion and expects to move out of bankruptcy sometime in the first three months of 2003. When it does so, Bonderman is poised to gain a 38% equity stake.

US Airways also went into bankruptcy with something no airline has yet brought to the table: a pledge of $900 million in federal loan guarantees that would back $1 billion in borrowing.

In addition, the pledge, though tentative, came from a banker with impeccable credentials. This was the federal government in the form of the Air Transportation Stabilization Board, created after last year's near collapse to compensate carriers for the days they were grounded and to back loans for carriers that needed a lifeline.

Just weeks before US Airways sought bankruptcy, the board gave its tentative approval to a $900 million guarantee, a pledge that Siegel had worked towards since his first day at the airline. Like the industry and Congress, he had looked to the board as the chosen instrument of survival.

US Airways' choice of bankruptcy, though, relegated the Board to a role as an incidental player. Northeastern University economics department chairman Steve Morrison, who played a key role in the airline deregulation of the 1970s, says that the Board is no longer the central architect: "It has lost its original role, perhaps because it moved more deliberately, at a slower pace, than was intended by the legislation."

Creditors line up

Now, the Board gets in line behind suppliers and other creditors in preparing to seek some stake in the reorganised US Airways. Allowing the airline to use the courts as its venue for retooling makes sense to others as well.

Global Aviation Associates managing director Jon Ash says that the Chapter 11 filing almost ensures that the board would come through on the tentative $900 million loan guarantee to US Airways, but beyond that government should do nothing.

Bill Rochelle, a bankruptcy expert with the law firm Fulbright and Jaworski, says the case could easily go through the courts and then go to the government's Board, which would be a financier of the airline's exit from court protection.

"Chapter 11 restructuring offers more freedom and flexibility in dealing with customers and vendors," says Rochelle. He insists that "the political process plays much more of a role in the government loan guarantees." Such is the view from abroad, where many see the loan guarantees as outright subsidy, unlike the $5 billion fund the Stabilization Board used to compensate carriers for losses while grounded by government order.

Winning the loan guarantees is not easy however. The board has so far been sceptical of United's request for $1.8 billion of guarantees, and has given it a very clear guide to winning its approval: get further along with the unions and suppliers and win wider concessions.

Bankruptcy discipline

US Airways had gone some way down this path, but not quite far enough before its bankruptcy filing. Ray Neidl, an airline analyst at investment bank Blaylock & Partners, sees the discipline of the bankruptcy reorganisation as "finally after all these years enabling US Airways to get its costs down and fulfil the franchise they have in the northeast, the more so if its proposed marketing pact with United Airlines takes effect."

Bob Crandall, the retired American Airlines chief, sees a major change now that the bankruptcy process is a dynamic one. "The US Airways bankruptcy could prove to be the catalytic event many industry observers have believed necessary to drive the industry toward dramatic change," he writes. Crandall had long been critical of bankruptcies as a destabilising influence in the industry, as he reminded policymakers in his Washington Post opinion piece.

Of course, US Airways' post-bankruptcy survival is not assured, given the record of the last decade. TWA, for instance entered bankruptcy three times, coming out the third time as part of American Airlines. Eastern landed in Chapter 11 and then was dissolved. Pan American disappeared, though its name was resurrected years later by a much smaller airline. Braniff filed three times for Chapter 11 before disappearing from the scene forever.

However, Martin Zohn, a bankruptcy expert with law firm Proskauer Rose, is more positive on airline prospects: "Given their complexity and huge capital structures, the record of getting through bankruptcy is better than many think."

Neidl adds that just as US Airways could emerge stronger from the workout, so United is "probably one of the few airlines that would benefit from bankruptcy". So, indirectly, could the rest of the industry, he adds. United's record-setting pilot contract would be renegotiated. "Other airlines would be delighted to see United roll back their wages. When United pays their unions big wages, other unions go to their carriers and want the same."

As Rochelle puts it: "The bankruptcy court in general can compel labour." By contrast, the board could only urge or plead. Zohn adds: "For a company as complicated as United, with its many constituencies and its employee ownership stake, the only possible course is bankruptcy." If he is proven correct, then the long-standing remedy of bankruptcy may be able to advance the transformation that the terrorist attacks were supposed to have begun.


Source: Airline Business