Loans No Guarantee of Airlines’ Survival

The nation’s airlines this week began receiving desperately needed cash from the U.S. bailout. Now, they’re ready to tap the other part of the aid: federal loan guarantees. But there are no guarantees that will be enough to keep all the airlines flying.

In effect, Uncle Sam could well determine which U.S. carriers survive over the long term and which don’t, according to investment bankers, lawmakers and industry analysts.

The first part of the $15-billion bailout--$5 billion of direct cash aid--is flowing to the airlines based on their market share. The cash is meant to keep the airlines from going broke in the aftermath of the Sept. 11 terrorist attacks, which dampened demand for air travel.

Industry pretax losses have been “eye-opening” and will amount to nearly $6 billion in this year’s fourth quarter and nearly $3 billion in the first quarter of next year, estimated analyst Brian Harris of Salomon Smith Barney.

The rest of the federal aid is $10 billion in loan guarantees, so that the airlines can again tap the capital markets for financing, with lenders and investors knowing the U.S. government stands behind the loans in case of default.

But the decision as to what airline gets how much in guarantees will be decided by a newly formed four-member Air Transportation Stabilization Board. On behalf of the board, the Office of Management and Budget is writing the rules for granting loan guarantees. There’s speculation one guideline will be the board’s confidence in the airline’s survival if the carrier gets the loan.

OMB spokesman Chris Ullman declined to comment on the speculation.

More details about which airlines will qualify are being worked out. Some airline executives met with agency officials this week, and investment bankers and lenders met with OMB officials Friday to help determine what guidelines to use.

The OMB has until Oct. 6 to write the rules, after which airlines can start applying for the guarantees. And “there will definitely be applications” for aid from the carriers, said one investment banker working with the industry.

America West Airlines, considered one of the weakest carriers, is “committed to participating” in the program but isn’t yet disclosing how much money it hopes to raise, said spokeswoman Patty Nowack.

The challenge for the government “is going to be discriminating between the hopeful cases and the hopeless cases,” the banker said, because the Bush administration and Congress don’t want to risk taxpayer money propping up an airline that might not survive anyway.

“This is going to put government in the position of picking winners and losers,” Rep. Jeff Flake (R-Ariz.) said.

He contended that the board also will have a conflict of interest because the program enables the U.S. government to get an equity stake in the airlines as a condition of the guarantees, if it desires.

“The government simply ought to be neutral,” Flake said in an interview. America West is based in Phoenix, but Flake said that doesn’t sway his view. “I actually voted against” the bailout, he noted.

In a report Friday, Salomon’s Harris said America West and another struggling carrier, US Airways, “would be the most likely to access the government loan-guarantee program,” and “next up would be Continental Airlines and United Airlines,” a unit of UAL Corp.

“However, at this point we are missing important details on the guidelines for divvying out the $10 billion in loan guarantees or what compensation the government will require in return,” namely the controversial equity position that would be similar to what the U.S. government obtained when it bailed out Chrysler Corp. two decades ago, he said.

United, meanwhile, continued to slash its operations Friday to weather the crisis. The airline said its permanent schedule, which initially was cut 20%, will be reduced 26% as of Nov. 1. The airline, which also eliminated 20,000 jobs as part of the initial cutback, didn’t disclose any further job cuts.

Airlines rallied with the rest of the stock market Friday. The American Stock Exchange index of airline shares jumped 4.14 points, or 6.5%, to 67.71 points.

The loan-guarantee guidelines are expected to include one major provision: The loans don’t have to be secured with the airline’s jetliners as collateral, said another investment banker for the industry. Many of the airlines’ fleets already are being used to secure existing loans, so “if the government was to require collateral for these [new] loans, there would be no loan program at all,” the banker said.

Before Sept. 11, the favorite vehicle for airline financing was the “enhanced equipment trust certificate,” or EETC. Those are bonds that provide extra security for investors by giving them several options to get their money back even if the airline folds, such as getting money from the resale of the doomed carrier’s airplanes.

Delta Air Lines, in fact, closed a $1.25-billion EETC financing arrangement on the eve of the attacks, and American Airlines, a unit of AMR Corp., this week completed the sale of $1.3 billion of EETCs that had been in the works before Sept. 11, bankers said. Despite the chaos in the airline industry after the attack, American managed to raise the funds because it backed the EETCs with modern jetliners, they said.

But it won’t be easy for an airline to float any more EETCs, making them more reliant on the U.S. loan guarantees, analysts said. That’s because, with the airlines having slashed their flight schedules 20% or more to save cash, they’re going to idle about 1,000 aircraft, which means “aircraft values are just going to tank,” said Bill Warlick, an analyst with the credit rating agency Fitch Inc. in Chicago.

“This is the industry’s No. 1 vehicle for financing, and it’s dried up for the time being,” he said.

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Cash Flow

Taxpayer-financed checks are in the mail to the nation’s airlines, which will share most of the $5 billion in direct assistance approved by Congress last week. Projected aid* by airline:

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Airline Projected Aid (in millions) United $802 American 880 Delta 656 Northwest 490 Continental 413 USAirways 318 Southwest 292 America West 122 Alaska Air 89 Others 438 Total 4,500

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* Based on 99% of $5 billion in total aid. About $500 million has been earmarked for air freight carriers.

Source: Salomon Smith Barney