As the airline industry racks up billions of dollars in debt -- $1.4 billion in the second quarter alone -- many carriers sit on the brink of bankruptcy, forced to ask the government for assistance in order to stay in business.

A government rejection of an aid request spells trouble, as

Vanguard Airlines

(VGDA)

, a Kansas City-based carrier flying jets to 17 cities, announced on Tuesday morning.

The company said it would file for Chapter 11 bankruptcy protection after the federal government's Air Transportation Stabilization Board rejected Vanguard's revised application for an $8 million loan guarantee. The news comes just six weeks after the ATSB rejected the company's first application for a $15 million loan guarantee.

Not that Vanguard was an ideal candidate for salvation. In eight years of operation, Vanguard never posted an annual profit, a major factor behind the ATSB's decision to reject the company's application.

"The board determined that Vanguard's proposal did not provide reasonable assurance that Vanguard will be able to repay the loan," the ATSB said in a statement.

Big Vs. Little

Vanguard isn't alone. Sixteen different airlines filed for the ATSB's loan guarantees, but only two have received them --

America West

(AWA)

and

U.S. Airways

(U) - Get Report

.

In the wake of the Sept. 11 terrorist attacks, Congress passed the Air Transportation Safety and System Stabilization Act, which provided $5 billion in direct aid to airlines and an additional $10 billion in loan guarantees to be doled out by the ATSB. Because some airlines were so adversely affected by Sept. 11, the government provided loan guarantees to ensure their ability to raise capital wasn't compromised.

Smaller airlines haven't fared as well as the bigger carriers, with

Frontier Flying Service

and Vanguard both rejected because of loan repayment concerns.

The ATSB's decision to aid the seventh and eighth largest U.S. carriers, but not smaller names, seems to favor

UAL's

(UAL) - Get Report

application for a loan guarantee. On June 24, UAL, the parent of United, the nation's second-largest airline, filed for a $1.8 billion loan guarantee on a $2 billion loan because its access to the capital markets was restricted.

But getting approval is not easy. The three voting members of the board -- Edward Gramlich, a governor on the board of governors of the Federal Reserve System; Peter Fisher, under secretary for domestic finance with the Treasury Department; and Kirk Van Tine, general counsel with the Transportation Department -- have been extremely tough on applicants.

In late December, the ATSB narrowly approved America West's application by a 2-to-1 margin. Sources familiar with the ATSB's vote said that Fisher argued against approval because of concerns America West wouldn't be able to repay the loan. Without enough collateral to secure the guarantee, America West gave the government warrants amounting to one-third of its common stock.

Even US Airways, a shining example of terrorism's effect on business, encountered turbulence.

Despite the fact that Ronald Reagan Airport, US Airways' Washington D.C. hub, was closed for three weeks after the attack, it only received conditional approval of its loan application. The carrier, which also gave up an equity stake, will receive the money provided it can carry out the concessions and initiatives described in its application. Once the loan is guaranteed, US Airways says it will help generate $1.2 billion in annual cost savings.

The UAL Case

UAL is in a much different situation. Unlike America West and US Airways, it opposes using equity to back the loan guarantee, since it has $2.4 billion in available cash and $3.4 billion in aircraft assets.

Furthermore, UAL's attempts to get concessions from labor have been largely fruitless, with the pilots' union agreeing to help defray costs provided machinists and flight attendants also give concessions. Flight attendants have refused to meet with management, which will have a tough time negotiating with unions because it still lacks a permanent CEO.

In a recent conference call to discuss second-quarter results, UAL's management refused to give any guidance on how much it will generate in cost savings going forward, something the ATSB will be specifically looking for. And UAL, which racked up $341 million in debt in the second-quarter, had profitability problems before Sept. 11, posting huge losses in both the first and second quarters of 2001.

As a result, analysts aren't completely convinced that the company will be approved for the loan guarantee.

"We currently assess the likelihood of a government loan for UAL as 60%-plus," wrote Jamie Baker, airline analyst for J.P. Morgan, in a research report last week. "Having recognized this, such an outcome simply buys UAL more time. If we believed that UAL was making significant improvements, we'd likely remain buyers. Unfortunately, we don't see such changes."

Jonathan Schrader, an analyst at Morningstar, says he's become "a little more negative" on UAL's chances.

"In the first quarter, they were able to tap into the private capital markets, so they did have access to capital," he points out. "They haven't gotten all of their labor unions on board. I think in the end if they get it, it would be more political than anything. But the board has shown itself to be pretty insulated from politics thus far."

Ultimately, the loan guarantee program was designed to help airlines that can prove they're able to help themselves. Given the ATSB's tough stance on carriers with better applications, a loan guarantee approval could be conditional at best.