US Air files for Chapter 11, UAL bonds off on fears it may follow

By Paul Deckelman and Paul A. Harris

New York, Aug. 12 - US Airways Group Inc. threw in the towel and filed for Chapter 11 protection - the first major U.S. air carrier to do so in the wake of the Sept. 11 terrorist assault on the U.S., which particularly hit the airline sector. But the talk in the junk bond market on Monday was not so much about US Air, which has only a limited amount of non-secured conventional junk bond debt out and which was anyway pretty much figured for a goner - but of the nation's Number-Two carrier, United Air Lines, also seen by some as a possible bankruptcy case. UAL's bonds and shares slid badly on the bankruptcy speculation.

The US Air Chapter 11 filing really came as not much of a surprise. The seventh-largest domestic carrier - whose filing with the U.S. Bankruptcy Court in Alexandria, Va. listed assets of $7.81 billion against non-current liabilities of $7.83 billion ($10.65 billion including current liabilities) - was already seen on shaky ground even before Sept. 11, along with the rest of the airline industry. As the smallest competitor in the group that includes larger rivals American Airlines, UAL, Delta Airlines, Northwest Airlines and Continental Airlines and Southwest Airlines, US Air was seen having one of the most difficult turnaround tasks before it, even though it was not directly involved in the events of Sept. 11 as United and American were.

Several junk traders queried said that they did not see very much activity in US Air, noting that most of its debt is in the form of enhanced equipment trust certificates - bonds secured by liens against airplanes and other tangible property. While unsecured creditors often find themselves with little recourse in a bankruptcy situation other than to stand in line and wait for some kind of recovery, bankruptcy code section lets EETC creditors actually repossess the underlying aircraft collateral 60 days after a payment default. US Air is reported to have $3.52 billion of EETCs backed by its 340-aircraft fleet, with the most valuable backed by liens on its newer Airbus planes, and the notes backed by its older Boeing aircraft considered less valuable.

With US Air not making much of a splash in the junk world, attention turned to UAL, which was wracking up big losses even before Sept. 11 - it had recorded $678 million of red ink in the first half of last year, well before terrorists seized two UAL jets and two American Air jets and used them to destroy the World Trade Center, attack the Pentagon and aim for another, unspecified, target which was spared from destruction by the Flight 93 passenger uprising.

In the wake of the Sept. 11 events and the substantial fall-off in air traffic that followed, the government passed a $5 billion package of emergency grants for the hard-hit industry, as well as a $10 billion federal loan guarantee package for the carriers. United, swimming in red ink, has put in for a $1.8 billion guarantee, seen as crucial in its efforts to line up new financing. Its rivals have urged Washington to deny the loan, arguing that the Chicago-based carrier's problems are largely of its own making, particularly lucrative contracts which the airline - 55% owned by its employees - gave to its unions. With the federal loan guarantee playing so important a role in cash-strapped United's ability to raise fresh capital, Monday's editions of The Wall Street Journal were reporting that UAL could "soon" follow US Air into Chapter 11 if the loan guarantees were turned down.

That prospect was making both shareholders and bond investors airsick on Monday; UAL shares nosedived $1.40 (26.92%) to $3.80 in New York Stock Exchange trading Monday, on volume of 6.6 million shares, about five times the norm. On the bond side, UAL debt "was getting squished," a trader said, "down across the board." He saw the company's 10.67% notes due 2004, which had closed on Friday quoted around 42 bid/44 offered, opening Monday, after the US Air news, at 37.5 bid, and then losing altitude to close at 29 bid/30 offered.

The trader said that "all of the pari passu bonds in the capital structure are getting squished [down to similar levels, regardless of maturity], just like WorldCom eventually did." While he said that didn't necessarily mean in and of itself that UAL would eventually file for bankruptcy as WorldCom Inc., the troubled Clinton, Miss.-based telecommunications giant, eventually did - still, "when people anticipate a bankruptcy, all of the pari passu bonds trade around the same dollar [regardless of maturity]. So, you're seeing some convergence. "

A distressed-debt trader, noting that most of US Air's debt was in the form of the secured equipment certificates, said that his shop "isn't even paying any attention to US Air," although that's not the case with the other airline bonds; he saw United paper quoted in a 25-29 bid context, well down from prior levels.

US Air's trouble's "obviously affected all the rest of them" [airline industry bonds], even if its own bonds were little seen, another trader said. He, too, saw UAL debt down about 14 points across the board, with the 10.67% notes at 29-30.

"That's pretty much were they were during that last scare," he added, referring to the slide which the carrier's bonds took when a Business Week article some weeks ago forecast that UAL might have to make an emergency landing in the bankruptcy courts

Meantime, the trader saw Delta Airlines' debt down about seven points on the session, with the Atlanta-based Number-Three U.S. carrier's 7.90% notes due 2009 finishing at 72 bid/74 offered; Delta shares were down a modest 57 cents (3.90%) to $14.03. Northwest Airlines' 8 3/8% notes due 2004 were five points in the red at 68 bid/71 offered, while its shares lost 64 cents (7.4%) to close at $8.07. Industry leader American Airlines' paper was three points down, its 9% notes due 2016 finishing at 69 bid/71 offered, while its shares were off $1.23 (13%) to $8.36.

Elsewhere, Conseco Inc. debt - which had tumbled into the teens on Friday after the troubled Carmel, Ind.-based insurer said it would not make the upcoming interest payments on its bonds as scheduled but would invoke the 30-day grace periods while trying to dicker with its bondholders for better terms - continued to languish around those levels on Monday, even as the NYSE suspended trading in its shares and considered an application to de-list the company, whose stock had last traded at 34 cents on Thursday.

"Conseco was all over the place," a trader said, "between 12 and 17 should cover it."

A market source actually saw the company's 9% exchange notes due 2008 trade at 16, up three points from Friday's finish, while a trader saw the different maturities of exchange paper at 14-15, "maybe a point better" (Conseco several months ago exchanged new paper with longer maturities for its then-existing series of bonds, inducing noteholders to tender their old bonds by making the new bonds structurally senior to the remaining outstanding notes with the shorter maturities).

But even the holders of the new exchange notes might find themselves behind the 8-ball should Conseco opt for a bankruptcy filing - a possibility which has made the rounds of the financial markets and the media lately.

According to high yield analyst George Kirchwey of SAMCO Capital Markets in New York, "bondholders should realize that if Conseco files bankruptcy, a recovery on their claims may take longer and may be smaller than if Conseco were to stay out of bankruptcy court."

Because Conseco is a holding company for a group of individual insurance companies, the consequences of a bankruptcy filing are far different that if it were just an industrial company, such as WorldCom, Bethlehem Steel, US Air, and the like, or even a financial services company such as Finova Capital.

Because Conseco's insurance subisidiaries are heavily regulated by the individual states in which they operate, Kirchwey points out in a research note, "if the parent holding company were to file for bankruptcy, its bondholders might find themselves more subordinated than if it did not file. That's because it's possible - maybe even probable - that state insurance regulators could step in to protect policyholders at the subs after such a move. Such steps might include freezing or restricting all cash and asset transfers out of the insurance subs up to the parent. There would be less (or no) dividends and operating cash that would be allowed to move up to Conseco Inc."

The bankruptcy court, he said "could oversee the selling-off of the insurance subs and make the bondholders wait for cash until policyholders are taken care of and the banks are paid in full.

With Conseco having proposed proposed talks with its bondholders regarding a restructure, Kirchwey says the best-case scenario for the investors involves "staying out of bankruptcy, if possible. Insurance companies are regulated, and protecting the policyholders is a priority."

Meanwhile "the thing to do is look busy," one sell-side source advised the Prospect News high-yield primary market desk, midway through Monday's "completely dead" session. "Otherwise somebody might find something for you to do."

With no movement on the forward calendar, and no developments reported on the two deals slated for possible transaction during the week of Aug. 12, another sell-side source told Prospect News Monday that the current "bleed" in the equity market is unmistakably causing distress in adjoining markets.

"The bank market's not in great shape," asserted this investment banker.

"You're seeing deals get repriced and flexed," the source added.

"Basically it means they are either increasing or decreasing the pricing," the source said. "And right now, of course, it means they're increasing it."

And the junk bond market is by no means immune, the sell-sider added.

"They're sticking in redemption premiums and some of the issuers are having to do warrants, like the Orbital deal.

"It's pretty ugly out there."

The official was referring to Orbital Sciences Corp.'s offering of $135 million of Rule 144A units made up of notes and warrants via Jefferies & Co. The deal priced Friday at par to yield 12% with a $3.86 strike price on warrants for 16.5 million common shares, amounting to approximately 36% of the company.

Orbital was navigating a narrow time frame in which to make a soft credit landing, as it faced a $100 million maturity on its 5% converts due this coming Oct. 1.

The above-quoted investment banker went on to spell out other capital markets maladies that can take hold of companies in an equity market "bleed."

"When you don't know what your equity side looks like it's tough to know what the other side should look like," the source explained.

"As the equity goes down in value the total value of the assets is going down in the market place, which puts more and more pressure on the debt because the company gets more and more leveraged.

"The equity is really a cushion. And at some point if it goes down far enough it really becomes a problem.

"Supposedly it's the asset value that you're really loaning against," the source added. "It's not always a cash flow situation, although it should be both. But when the asset values start to plummet in the market obviously it's going to impact the attractiveness of your loan or your bond."

Hesitant to predict what the post-Labor Day market would look like this sell-side source did say that in a bear market the buy-side may be relied upon to focus on credits that are "free cash positive."

However when Prospect News pressed this investment banker to hazard some kind of forecast as to what the post-Labor Day new issuance scene figures to look like, the official elected to respond with a list of questions.

"What's the breadth of this recession really going to be?" asked the source. "Is it going to be a double-dip situation? Are things going to be stagnant? How slow is growth going to be? Is an improving economy going to lift all boats? And how fast?

"Early in the year we saw a really good market. You had a lot of attractive deals and a lot of attractive numbers being printed for the issuers.

"Now it's the opposite. Now people don't have an appetite to do anything because it's too unstable.

"If things were to stay like they were in July I think it would be a terrible second half."

Of the two deals parked on the Prospect News forward calendar for the week of Aug. 12, sell-side sources advise Prospect News that the most probable of pricing is URS Corp.'s offering of $250 million of seven-year senior notes (B1/B) via Credit Suisse First Boston. The San Francisco engineering and design services provider will use the proceeds to finance the purchase of EG&G Technical Services and Lear Siegler Services, Inc. from The Carlyle Group. A syndicate source said that the deal figures to price mid-week. No price talk was heard Monday.

Also possible during the week of Aug. 12, according to an informed source, is Chukchansi/Gold Resort & Casino's $135 million of seven-year senior notess via Dresdner Kleinwort Wasserstein. The first-time issuer's deal is set to finance the Chukchansi tribe's new casino and resort complex in Coarsegold, Calif., and will likely not be rated, according to the source.

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