Investors Snap Up UAL Shares, Despite Warnings

The carrier says it has obtained $2 billion in financing.
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Updated from 7:55 a.m.

Shares of

UAL

(UALAQ)

, parent of United Airlines, rallied 5.4% on Wednesday after the carrier said it had obtained $2 billion in financing, clearing a major hurdle for the company to emerge from bankruptcy protection.

But United management isn't snapping up shares. In fact, the company's management has sold 116,000 shares over the last six months, according to data from Multex, a provider of financial information. The company also has warned investors that shares will likely be canceled, and therefore rendered worthless.

"While United's stock continues to be traded on the Bulletin Board exchanges, the company believes its equity securities have little or no value and are highly likely to be canceled under the plan of reorganization," the company says on its Web site.

Nonetheless, in reaction to Tuesday's announcement that J.P. Morgan and Citigroup would serve as co-backers of UAL's exit-financing plan, shares were up 9 cents at $1.70. As of the early afternoon, 4.1 million shares of UAL had traded, on track to easily top the average daily volume of 4.8 million shares.

Under the exit-financing agreement, J.P. Morgan and Citigroup will each underwrite $200 million of the nonguaranteed portion of the loan and $800 million of the guaranteed portion. But in order for UAL to emerge from bankruptcy, the carrier will need to receive a loan guarantee from the Air Transportation Stabilization Board, which was created after Sept. 11 to help airline liquidity after the attacks.

United said it plans to file an updated loan proposal with the ATSB, which rejected its initial application for a loan guarantee on Dec. 4 of last year and helped push the carrier into bankruptcy protection.

"Obtaining exit-financing commitments on a timely basis is a major step for United," said Jake Brace, United's CFO. "J.P. Morgan and Citigroup, along with our other debtor-in-possession financing lenders, have gained a deep understanding of our business and the progress United has made on lowering costs, enhancing productivity and improving revenue, which led directly to these exit-financing commitments."

But UAL's current equity investor base will not be able to profit from the carrier's gains under restructuring. Generally speaking, under bankruptcy protection, a company tries to restructure its operations because debts exceed assets, and it uses equity in a new, restructured company to pay off creditors. Because the bankrupt company must pay off banks and bondholders first, equity shareholders are usually last in line to receive payment and have their shares canceled, as UAL warned.

"Equity is the end of the line. The equity is the last class to receive

compensation. The first is secured creditors, like banks and the debtor-in-possession," said Chris Stuttard, editor of BankruptcyData.com, a clearinghouse for corporate bankruptcy information. "Then the equity is the last. From my experience, common shares are canceled."

On April 3, UAL shares were delisted from the

New York Stock Exchange

and began trading as an over-the-counter Bulletin Board stock, closing at a low of 45 cents a share on Aug. 15. But over the last four months, as industry fundamentals improved, UAL stock has more than tripled, despite UAL's attempts to warn investors that shares are likely to be canceled.

"There's been a subtle little industry that goes on within the shares of bankruptcy who buy and sell shares of bankrupt companies. It still trades as an equity. It's a product," said Stuttard, noting that shares of

K-Mart

exhibited similar trading trends before shares were canceled.

With equity likely to be canceled, people who invest in UAL are playing a game of hot potato, hoping to avoid being the last person to hold shares. This is an especially dangerous play for the individual investors who may believe they're buying shares in UAL's future instead of its past.

US Airways

(UAIR)

offers a nice example of how this phenomenon works. In August 2002, US Airways was listed on the New York Stock Exchange under the symbol "U," but was delisted after the company declared bankruptcy and began trading on the over-the-counter market under the ticker "UAWGQ." In April of this year, US Airways emerged from bankruptcy protection and issued new equity shares in a newly restructured company. Holder of the over-the-counter "UAWGQ" stock got nothing, while creditors and bondholders received new shares in what would eventually begin trading as UAIR on Oct. 21.

A call to United Airlines for comment was not immediately returned.