Airlines Brace Themselves During Credit Crunch
Another industry struggling in these exceptionally uncertain economic times is the U.S. airline industry. The airlines are bracing for the negative impact that could result from changes by credit-card processors who are in a state of distress in the face of America’s ongoing credit crisis.
Carriers like UAL Corp’s United Airlines and AMR Corp’s American Airlines are taking defensive positions by changing deals with credit-card processors and topping off their cash positions. They feel they need to be prepared if credit card processors start requiring larger cash holdbacks than they currently exact. Robert Mann, an airline consultant, says “People are trying to get out in front of this because they don’t want to be in the position that Frontier was.” Mann also indicated that
“It’s going to continue to be an issue as long as the credit markets are in disarray.”
In April of this year, Frontier Airlines Holdings Inc filed for bankruptcy shortly after their credit-card processor, First Data Corp, imposed higher withholding requirements. The higher limits significantly overtasked the low cost carrier’s liquidity. Certainly other airlines would prefer to avoid such a disastrous outcome.
The current standard is that customers book their flights, often months ahead of the travel dates, and credit-card processors take their payment and pass it on the the airline. This leaves the credit card processors at risk if the airline fails. The processors would be on the hook to reimburse money to the customers for travel not provided. To limit their risk, airlines are often obliged by processors to put a percentage of the advance booking proceeds aside to provide for recompensation if needed.
If a processor doubts the ability of an airline to provide travel or repay its debts, they may require a higher percentage of advance ticket revenue to be held back. In the case of Frontier, First Data demanded that 50 percent of advance credit card funds be withheld.
Bill Warlick, an analyst at Fitch Ratings notes that “Most credit card processing agreements include some kind of minimum liquidity requirement.” Fitch also noted that recent actions were taken by AMR and UAL (parent companies to American Airlines and United respectively).
AMR has indicated just last month that it would pull $225 million from its revolving credit facility to increase its liquidity pool and reduce the amount of potential credit-card holdback reserves. In July Thomas Horton, AMR Chief Financial Officer, stated that “(I)t is possible that we could have holdbacks in place by the end of the year to the tune of about $200 million to $300 million.”
UAL completed a deal with its credit-card processors in June to minimize the reserves that United was under agreement to maintain.
To boost its cash position, Delta Air Lines Inc borrowed to the full extent of its $1 billion revolving credit facility in August. Delta also revised its Visa/MasterCard processing agreement, which has no cash holdback requirement.
In June, Continental Airlines Inc altered its card processing agreement and now will be required to maintain a minimum level of cash as well as a minimum rating on senior unsecured debt. The change did offer an improvement in that it gave the airline the ability to remove a minimum earnings-to-fixed-charges ratio which if triggered could have obliged them to post further collateral.
Warlick says “It’s definitely one of the key liquidity issues that we’re focused on right now. The companies have restructured their debt and have less need for major purchases as they downsize. But the risk that they might face higher cash holdback requirements remains a wild card.”
