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More Airline Bankruptcies: A Crude Reality?

The costs of rising oil prices and a declining economy are hitting cash reserves; survival will depend on discipline, industry watchers say.

CHARLOTTE, N.C. -- The skyrocketing price of oil is thinning corporate and consumer wallets, and the airline industry, in particular, is feeling the effects of both. Just this week,

American Airlines


announced plans to cut its domestic flight schedule to help ease its exposure to the increasingly pricey commodity.

Now, just one year after



became the last major carrier to emerge from bankruptcy, seemingly ending the era of post-Sept. 11 restructurings, the possibility of a new round of filings has emerged.

Some experts are examining airline cash levels to calculate how quickly the money could run out. "Airline financial analysis in this time of high oil prices has devolved into simply liquidity monitoring," wrote CreditSights analyst Roger King in a recent report entitled "Airline Bankruptcy Guide."

Late Thursday, Standard & Poor's placed nine of the 10 largest U.S. airlines on CreditWatch with negative implications, citing the potential for severe financial damage from unprecedented high jet fuel prices. (The 10th airline, Northwest, was already on CreditWatch in connection with its proposed merger with


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"The dramatic increase in jet fuel prices has increased airline costs significantly over the past two months, and, if sustained, could threaten their liquidity and financial profiles," said S&P analyst Philip Baggaley. "Although airlines will seek to recover the higher costs through additional fare hikes and higher fees, we believe that this will prove increasingly difficult in a weak U.S. economy."

Oil prices have risen about 20% this month, reaching $135 a barrel on Thursday, while several smaller carriers have filed for bankruptcy protection this spring. Of them, Aloha and ATA subsequently shut down, while


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continues to operate.

Obviously, bankruptcy talk is not a positive for airline stocks. The Amex Airline Index sank to an all-time low Wednesday of 18.69 points.

Survival: Discipline vs. a Darwinian Approach

In another recent report that discusses potential bankruptcies, JPMorgan analyst Jamie Baker says the industry harbors two schools of thought. "One belief is that airlines will act collectively to massively reduce capacity, leading to near-record fare improvement," he wrote. "But reality suggests managements may instead engage in value destructive behavior as they attempt to merely outlast one another." The second would likely lead to bankruptcies, he said.

To be sure, Wednesday's move by American Airlines to

reduce domestic capacity by 11% to 12%

strongly supports the view that bankruptcies are less likely, given the airline industry's tendency to move in tandem -- often, over the years, by following American's lead.

Already, cuts of 9% to 10% have been announced by Delta and



, with lesser reductions by other legacy carriers and slower growth by low-cost carriers. Most cuts are scheduled to take place after the summer travel season.

In his report, CreditSights' King wrote that with oil at $117 a barrel, the industry's fuel bill will absorb 67% of current cash balances, while crude at $144 "cleans out all cash accounts." He noted: "The race is on to see if airlines can raise fares high enough to cover the fuel bills before they run out of cash."

Analysts disagree on the outlooks for individual carriers. In his report, King suggests that Delta, United and



are in the tightest liquidity positions, while Northwest and

US Airways


are in good shape.

Baker, meanwhile, said US Airways and Northwest have the highest risk of filing, while the risk is low at


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. Both analysts said



is the best-positioned airline.

Among the airlines, American has most directly addressed the bankruptcy issue, which arose earlier this year largely because it is the only legacy carrier never to have sought bankruptcy protection and, as a result, has relatively high labor costs.

In March, with oil generally trading between $100 and $110 a barrel, AMR Treasurer Beverly Goulet talked about bankruptcy at an investor conference and later during an

interview with

. "This whole perception is way overblown," she said at the time. "We restructured in a different way than a lot of our peers have done, and we have competitive costs in regard to every aspect of our business except for labor costs, but that's really the only significant way we differ."

"We have a lot of liquidity," she added. "We've done a lot of balance sheet repair work over the last several years -- we've tapped equity markets, for instance, and we've made progress in unencumbering some of our aircraft, and the hard work we've done has left us well positioned to deal with high fuel prices and an economy that may not be a strong as we would like."

Avondale Partners analyst Bob McAdoo says it is probably a little early to discuss bankruptcies. "It isn't as if there is nothing to be done, and people are starting to take action," he says. "I would guess most airlines have taken their first cut at it, but they haven't finalized their schedules for this fall."

McAdoo notes that pulling down capacity is a tested formula for improving revenue per available seat mile. In the second quarter of 2006, he says, US Airways reduced capacity by 12%, and saw a 23.8% RASM increase. The improvements also reflected capacity reductions by Delta and Northwest, which were in bankruptcy at the time, he says. In fact, during the quarter, industry RASM rose around 15%.

"I think a lot of airlines are thinking 'let's cut a little bit, and see how the summer goes,'" McAdoo says. "'If we get into summer and fuel is still high, we can still cut in the fall.'"