Plan B for United

After a bankruptcy filing, S&P airline analyst Philip Baggaley sees a reorganized carrier emerging. Til then, it will be noisy

UAL Corp.'s effort to avoid a bankruptcy filing may have reached the breaking point on Dec. 4. The federal Air Transportation Stabilization Board (ATSB) rejected a bid by UAL (UAL ), which owns United Airlines, for $1.8 billion in federal loan guarantees. The decision came unexpectedly early, and it prompted the mechanics union to cancel its vote to reconsider wage concessions that it turned down last month. All of UAL's other unions -- and even its executives -- had agreed to wage cuts.

Now, it's time for Plan B. The ATSB called the rejection "not final," but it's increasingly unlikely that UAL will be able to avoid bankruptcy court (see BW Online, 12/04/02, "Why United Should Go for Broke"). UAL has been rounding up $1.5 billion in debtor-in-possession (DIP) financing, which is typically used by companies in bankruptcy.

"United will run out of time and cash before it can bring forth new cost cuts [to the board]," explains Philip Baggaley, an airline bond analyst for Standard & Poor's. (Like BusinessWeek Online, Standard & Poor's is owned by The McGraw-Hill Companies.) After the ATSB rejection, Standard & Poor's Ratings Services cut its corporate credit ratings on UAL and its United subsidiary to "default," since debt payments due within days likely won't be paid off.

In an interview on Dec. 4 with BusinessWeek Online reporter Amy Tsao, Baggaley discussed United and the impact of its troubles on the industry. Edited excerpts of their conversation follow:

Q: United had managed to get concessions from most of its unions. The mechanics were the last holdout. Why didn't the ATSB wait for that union to vote before turning UAL down?


The timing was surprising, but not necessarily the result. I expected they would wait for the mechanics to vote, but the ATSB decided it was more fair to resolve this now. If that vote had turned out positively, it would've built up more pressure on the board to approve UAL's request, so they shortcut the process.

Q: UAL management has been trying to cut costs for months, but the ATSB didn't think it had gone far enough. In what ways did the airline's restructuring plan fall short?


The optimism of revenue projections and UAL's plan on cost reductions relied too little on labor concessions and cost cuts that could be easily identified.

When you literally lower wages or reduce debt payments or payments to suppliers, that's pretty direct dollar-for-dollar savings. Whereas longer-term changes are harder to quantify and verify from the outside. United's business plan relied [too heavily] on revenue recovery. [UAL CEO] Glenn Tilton ended up getting $5.2 billion in work concessions over five-and-a-half years.

Q: What are United's next steps?


It will still be noisy. It'll be approaching creditors and trying to revise leases, though there's a 60-day period where it doesn't have to pay after the bankruptcy filing. Management can decide which planes they want to keep during that period. And they'll have to come back to labor unions with new proposals. They may look more along the lines of what United's previous CEO, John Creighton, was proposing -- $9 billion in labor concessions over six years.

I expect a lot of unhappiness in the hub cities -- Denver, San Francisco, Chicago -- and probably some recriminations among the labor unions.

Q: Clearly, United's fate is of interest to many parties. What are the short-term and long-term effects of a bankruptcy for the industry?


Short-term effects would probably be some revenue gains for competitors, particularly American (AMR ) and Northwest (NWAC ), as United shrinks back a bit more and some business travelers and overseas travelers switch to other airlines. That's not a huge shift, but obviously anything hurts United in these circumstances.

The other main effect, which could take longer to unfold, is that United's bankruptcy and the lower labor compensation it would certainly end up with would change the bargaining environment for contracts at other airlines.

It would give management at other airlines a more persuasive argument to hold back wage increases and possibly even get some concessions from unions at other airlines -- pointing to United as what can happen if things slip too far.

Q: Haven't other bankrupt airlines served as cautions to labor unions?


[Labor compensation] tends to move in cycles. The cycle was up in late 1990s. The tide is turning. The question is how much.

I think United would be a more striking example because it's the second-largest airline in the world, and it's the largest employee-owned company in world. Some of its contracts helped accelerate the final push upward in labor compensation. It would be very sobering for organized employees throughout the industry.

Q: Other airlines have filed for bankruptcy. Some, like Continental (CAL ), have emerged while others, including Eastern, TWA, and Pan Am, haven't. Which category will United fall under?


Well, I think it's likely to reorganize. It's a very large company with some strong roots and lots of constituencies -- the state of Illinois, Boeing (BA ), Airbus, the state of California -- would like to see it keep operating. I think it's likely to keep operating. [United has stated that it will maintain its flight schedule.]

Continental's labor situation is somewhat different in that [CEO] Frank Lorenzo was not loved by labor in the late 1980s when he was the executive there. When Gordon Bethune came on as CEO, he created a lot of good will by managing capably and taking a different approach with labor. However, he benefited from starting out with very low wages and a predecessor that wasn't liked by labor at all.

United is starting with relatively high wages and trying to bring them down. That's a much more difficult labor environment, even if it does successfully reorganize.

Q: How would a bankruptcy affect consumers?


It depends on where you live. In bankruptcy, United would have a freer hand to use a regional partner [in a smaller market], but you might have more trips per day. It could work out to be an improvement.

There's likely to be some uncertainty and poor employee morale no matter what happens. This has to be distracting a lot of employees right now. But I don't see United abandoning major hubs, because they're all strong hubs in major markets.

Edited by Patricia O'Connell

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