Delta Creditors Man the Cockpit

Despite its rhetoric about staying independent, Delta Air Lines will find it has relatively little sway when it comes to deciding its future structure.

As a debtor in bankruptcy, the nation’s No. 3 airline confronts an $8 billion hostile takeover offer from US Airways Group (LCC) in the role of bystander wondering how creditors will respond. The smaller airline is offering to pay off those companies with $4 billion cash and 78.5 million of its own shares, which have surged this year amid a brighter outlook for the industry. That’s likely to appeal to many of the carrier’s unsecured creditors, eager to be paid and encouraged by the former America West Airlines’ success thus far at integrating US Airways, which it bought out of Chapter 11 last year.

“Delta will face a lot of pressure from the creditors’ committee to do this,” says Jim Corridore, an equities analyst for Standard & Poor’s. [S&P, like BusinessWeek, is owned by The McGraw-Hill Companies (MHP)]. Even if Delta (DALRQ) continues to balk at the offer, as it did for a second time Nov. 15, US Airways will likely keep pitching creditors directly, and other bidders could emerge. Delta also could be forced to rework its own plans for emerging from court protection in the first half of 2007, potentially complicating the entire restructuring.

To be sure, the bid — funded with borrowed cash — faces several hurdles. The bankruptcy court will assess the offer, as will federal antitrust officials and US Airways’ shareholders. Plus, the new Democratic majority in Congress could set a new tone for whether any industry consolidation commences and what configuration that may take.

Airline Sector Flies Still, Wall Street relished the prospect of airline carrier consolidation, sending stocks throughout the sector higher on Nov. 15. US Airways’ shares soared nearly 17%, to close at $59.46 on the New York Stock Exchange. The parent of United Airlines, UAL (UAUA) jumped 9%, to $39.99 on the Nasdaq, while Continental Airlines (CAL) gained 12.3%, to $43.08, and American Airlines’ parent, AMR (AMR), rose 5.3%, to $32.33. Their discount brethren also gained. AirTran’s parent, AirTran Holdings (AAI) and JetBlue Airways (JBLU) — both upgraded Nov. 15 by Bear Stearns (BSC) — rose 15.9% and 7.4%, respectively. Southwest Airlines (LUV) climbed 4.6%, to $15.94, while Frontier Airlines Holdings (FRNT) gained 5.2%, to $8.68.

US Airways Chief Executive Doug Parker has already arranged a financing commitment from Citigroup (C) to provide $7.2 billion in funds for the deal. Much of that money will go toward paying off debt that both US Airways and Delta owe General Electric Capital (GE), which leases aircraft. But even Delta’s remaining creditors, which range from The Coca-Cola Co. (KO) to the aircraft engine maker Pratt & Whitney (UTX), will get a hefty share of their outstanding claims repaid under the current offer.

“Delta creditors will receive significantly greater value under this proposal than they would under any standalone plan for Delta,” Parker said in announcing the bid. The airline is offering to pay a 40% premium over the average trading price for Delta unsecured claims over the last 30 days as of Nov. 14. Parker thinks a combination would generate at least $1.65 billion annually from things like improved efficiencies. He says the opportunity to generate more than half of these synergies could be lost if a merger is delayed until after Delta emerges from bankruptcy.

Sweetening the Pot During US Airways’ bankruptcies in 2002 and 2004, unsecured creditors got repaid less than 10% of what they had originally put down when they bought the airline’s debt. “I think the unsecured creditors are happy with what’s on the table,” says Bill Warlick, a senior airline debt analyst at Fitch Ratings in Chicago. “Not that they won’t negotiate for more or stir the pot a bit and potentially get some additional bids in the mix,” he added.

Creditors Coca-Cola, Pratt & Whitney, MacKay Shields, and General Electric Capital didn’t comment on how they plan to negotiate with Delta. “We’re watching the [US Airways] bid closely,” says Jennifer Arsenault, a Pratt & Whitney spokeswoman. Creditors Fidelity Investments, the federal Pension Benefit Guaranty Corporation, and US Bancorp (USB) didn’t immediately respond to requests for comment.

Atlanta-based Delta filed for bankruptcy last September — on the same day as rival Northwest Airlines — after buckling under the weight of record fuel prices and a prolonged weakness in ticket prices.

Parker Presses Suit US Airways’ public courtship, including a prominent display on its Web site, is the latest tack for Parker, who wrote to Delta CEO Gerald Grinstein Nov. 15 describing his recent efforts. He had talked with Grinstein in the spring about a potential merger and received a formal rejection on Oct. 17. “Because the benefits of a merger of US Airways and Delta are so compelling to both of our companies’ stakeholders, we believe it is important to inform them about our proposal. Therefore, we are simultaneously releasing this letter to the public,” Parker wrote to Grinstein.

Parker already has a vote of confidence from PAR Capital Management, US Airways’ largest shareholder. “We enthusiastically support this transaction, which we believe offers the opportunity to build upon US Airways’ current competitive position,” PAR President Paul Reeder said in a statement.

It remains to be seen how enthusiastic creditors will be about the deal.