For North American carriers rapid reorganisation under bankruptcy court protection is now a management tool to achieve cost reductions.
Bankruptcy, real and threatened, pending and past, is the spectre looming over North America's airlines as they decide the next step in their transformation. Recently there have been two additions - Air Canada and Hawaiian Airlines - and one deletion - US Airways - from the list of the protected.
At the end of March American Airlines, the world's largest carrier, came within a few hours of seeking bankruptcy court protection and has remained hovering on the edge as it awaited union concessions. Filing for Chapter 11 protection has now become "an ever-present airline reality" says JP Morgan analyst Jamie Baker.
As unthinkable as an American Airlines bankruptcy may have been just a few months ago, the unthinkable is now very much on people's minds. A greater surprise perhaps is the sudden 1 April bankruptcy filing of Air Canada. This filing, made in both Canadian and US courts, has as its goals the ambitious restructuring and rapid change that is now the defining characteristic of the reorganisation process.
At Air Canada, nothing short of "a cultural change" will save the airline, insists president Robert Milton. For the last year he has insisted the airline must reinvent itself as a low-cost carrier. When a cash-burn rate of C$2 million ($1.4 million) a day compelled it to seek protection under Canada's Companies Creditors Arrangement Act (CCAA), Milton resolved to turn this process into a tool.
GE Capital Canada has solved Air Canada's short-term liquidity concerns with a $700 million debtor-in-possession (DIP) facility. The first $400 million is an 18-month loan; the $300 million balance will be revolving credit. With its own C$375 million in cash, Air Canada can ride out months of turbulence.
Milton says he prefers DIP financing, the traditional way to keep operating while in bankruptcy protection, to possible government aid. He complains about the lack of "a level playing field" with US carriers, that may receive more help from Washington. "I have never sought a bailout," Milton says, "but my idea is to be on par with our neighbours down south." Yet, he also worries about strings that politicians and regulators in Ottawa might attach to any package.
Milton also rails at what he sees as inconsistent federal policy, including charges by one agency, the Competition Tribunal, that the airline's fares are too low, while another, Canada Transport, says its fares are too high. It is also hampered by government mandates that Air Canada keep workers on the payroll following its takeover of Canadian Airlines.
Labour changes
Milton's cost cutting will focus on labour contracts, but this, warn attorneys, will be different to the manner in which US carriers have used their courts to coerce unions to come to the table and accept major changes. Unlike Chapter 11 in the USA, Canada's CCAA does not give a court explicit powers to abolish or reject a labour contract. Whether such power is implicit in the Canadian statute is a subject of intense debate between lawyers.
If the court refuses to rescind these contracts, the airline and unions must find other ways around their impasse. Milton pins success on changing contract terms and "a radical, wholesale revision to work rules". But two of Air Canada's three big unions have resisted rollbacks and layoffs.
Under the US bankruptcy law's now-increasingly well-known Section 1113, a bankruptcy court judge can reject the collective-bargaining agreements of unions if that is the favoured course of the bankruptcy trustee. The judge can also reject them if most of the equity interests agree, or if the agreements have been voted down by union membership "without good cause". Here is the crucial difference between US and Canadian procedures.
Air Canada's other big hurdle is the airline's C$12 billion of debt, most of it inherited from Air Canada's takeover of Canadian Airlines, the event that many observers see as the start of Air Canada's tailspin. Other debts accumulated along with the losses. Some, like the C$1.3 billion potential shortfall in pension plans, are due to lagging markets. Air Canada claims that Ottawa's order for it to top up these pension-funding shortfalls was the final straw.
Like his neighbours to the south, Milton is already looking for backing for the time when the airline emerges from its reorganisation. David Bonderman's Texas Pacific Group is one of several investors already seeking a post-exit stake in Air Canada. The UK's Marathon asset fund, already a substantial shareholder, is another. Bonderman earned his white knight spurs with the group's rescues of both Continental and America West Airlines.
Both bidders are interested in a sponsored plan, whereby they would commit new equity in exchange for specific concessions from creditors and staff. Such a plan is limited, however, by Air Canada's 25% foreign ownership cap, which Ottawa has shown little desire to change.
Still, Air Canada hopes to emerge from court protection six months from now as a low-cost, low-debt airline with a smaller fleet and more regional jets. Any change of the magnitude that Milton contemplates would not be easy to achieve in such a short timeframe, but he insists that Air Canada will manage its reorganisation rapidly.
Time is also the central factor in the US filings. They are a management step to find a new forum in which to determine their costs going forward, aided by the deadlines and pressures of the reorganisation process. After all, the process has far less room for dilatory behaviour than labour laws.
US Airways demonstrated this in its rapid and likely record-setting journey through bankruptcy - it entered in August and emerged by the end of March with a new cost structure. The US Airways reorganisation illustrates the importance of timing: Chief executive David Siegel says the carrier chose tight and challenging deadlines precisely so that it could use the self-discipline of the process as a management tool.
Analyst Gary Chase of Lehman Brothers warns that the airline's costs are still high enough to be vulnerable to low-fares competition and an economic downturn. He calls its Chapter 11 process "exceptional".
American's use of self-imposed deadlines to avoid bankruptcy has been public, transparent and high profile, with its chairman, Don Carty, setting a "drop-dead" hour and minute that the carrier and its unions met with literally no time to spare. The deadline remained while union members voted on ratifying their $1.8 billion worth of cuts. Their incentive came as American showed its planned Section 1113 proposal to the unions, detailing how their rejection of the concessions would trigger a series of major changes. The airline detailed which facilities would be shuttered and what tasks would be outsourced.
Union vote
By mid-April American's pilots had voted 69% in favour of the cost-cutting plan, under the clear threat of a Chapter 11 filing, with mechanics and flight attendants to follow.
Some of the rank-and-file believed that ratification of the tentative agreements will not keep American out of bankruptcy. Their theory is that the company will accept the concessions, then file for bankruptcy protection and try to get an even deeper concession. Ray Neidl, financial analyst at Blaylock and Partners, however, believes that American wants to avoid the complications and costs of reorganisation.
Carty has tied the negotiations to corporate finances by promising pay rises if it gets the cost cuts and then regains investment-grade status by 2006.
Even the United Airlines reorganisation, the largest ever in the airline industry, is proceeding, largely because the airline and tacitly its unions have accepted deadlines by which they will renegotiate contracts or see the court allow the airline to reject the contracts. Richard Seltzer, a Cohen, Weiss and Simon bankruptcy lawyer, says as unions are now almost routinely appointed to creditors' committees, they can assert their role as strong supporters of preserving their airline "as a viable, long-term going concern".
Some warn the carriers in court have merely gained time, not profound reform. Morgan's Baker advises investors that time alone will not heal the wounds which have led to the bankruptcy filings. "Even in the best of times, we consider all airlines whose names start with something other than Southwest to be bankruptcy candidates," he says.
| Air Canada: the path to the bankruptcy court |
| Note: All dollars are Canadian. 1989 Air Canada privatised by federal government. August 1999 Robert Milton promoted to chief executive. Federal government suspends Competition Act for 90 days to permit the airlines to talk about restructuring the industry. August 1999 Air Canada offers to buy the international routes of Canadian Airlines. The offer is rejected. Onex Corp makes $1.8 billion offer to buy and merge Air Canada and Canadian Airlines. Oct 1999 Air Canada announces counter bid financed by CIBC and the airline's Star Alliance partners, United Airlines and Lufthansa. Part of the plan is to buy Canadian Airlines for $92 million. Nov 1999 Onex scraps its offer after a Quebec court calls its bid illegal. Jan 2000 Takeover is official. Air Canada plans to consolidate its regional subsidiaries Air Nova, Air Ontario and AirBC. Feb 2000 Air Canada reports 1999 profit of $213 million, compared with a $16 million loss the year before. Aug 2000 Milton announces plans to hire 2,000 more workers to improve customer service. Dec 2000 Airline issues profit warning, announces 3,500 jobs may be cut. Feb 2001 Reports 2000 loss of $82 million. Sept 2001 Air Canada and subsidiary Air Canada Regional (later renamed Jazz) lay off 5,000 more employees, making a total of 9,000 in the year. Nov 2001 Launches no-frill Tango domestic service. Feb 2002 Reports $1.25 billion loss for 2001. March 2002 Recalls hundreds of laid-off workers after solid operating results for February. April 2002 Launches Zip, a low-fare carrier to serve western provinces. Aug 2002 Air Canada says it will cut 1,300 jobs to meet seasonal drop-off. Jan 2003 Onex Corp agrees to pay $245 million for a 35% stake in Aeroplan frequent-flyer programme. Feb 2003 Air Canada says it may sell Jazz airline and seeks $650 million in labour-cost concessions as it announces $428 million loss for 2002. April 2003 Air Canada files for court protection from creditors, lays off 600 flight attendants and warns of more job cuts to come. |
Source: Airline Business
