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Fitch Ratings has affirmed the Issuer Default Ratings (IDR) of UAL
Corp. and its principal operating subsidiary United Airlines, Inc. at
'B-'.
In addition, Fitch affirms United Airlines' secured bank credit
facility (term loan and revolving credit facility) at 'BB-/RR1'.
Fitch has revised the Rating Outlook for UAL and United to
Positive from Stable. The secured debt rating applies to United's
recently amended $2.055 billion bank credit facility.
Ratings for UAL and United reflect the carrier's highly levered
balance sheet, improving but still weak margins, and ongoing
susceptibility to revenue and fuel price shocks in an industry that
remains particularly vulnerable to event risk. Fifteen months after
its exit from Chapter 11 and a three-year restructuring process,
United's operating profile has improved modestly and its free cash
flow generation outlook for 2007 is good. With no aircraft deliveries
on the near-term horizon and reasonably strong international revenue
fundamentals still in place, United is poised to strengthen its
liquidity position again this year, while de-levering through
scheduled debt amortization and better operating cash flow trends.
The revision of the Rating Outlook to Positive reflects the
expectation that strong free cash flow (in excess of $1 billion for
2007) will allow de-levering to proceed, even in a challenging
industry operating environment.
United took an important step on the road to balance sheet repair
with the recent refinancing of its bank credit facility. The airline's
liquidity position at year-end 2006 was very strong ($5 billion in
total cash), allowing management to pay down $972 million on the
original exit facility while reducing the total commitment under the
new facility to $2.055 billion from $3 billion. Tighter credit spreads
provided United with an opportunity to lower its annual interest
expense by approximately $70 million as a result of the refinancing.
The new credit facility was priced at LIBOR + 200 basis points. The
transaction also freed up about 100 aircraft from the exit facility
collateral pool, creating a larger base of unencumbered assets and
improving the carrier's flexibility in responding to any future
liquidity pressure. The credit facility pay-down, together with
scheduled debt payments, drove approximately $1.4 billion of adjusted
debt reduction in the first quarter.
The operating outlook for United and the rest of the U.S. airline
industry is more uncertain in light of softer than expected domestic
revenue trends reported for the first quarter. The outlook is further
complicated by high and volatile jet fuel prices, which may increase
in importance this summer if limited refining capacity fails to keep
up with strong fuel demand. United has hedged approximately 23% of
expected second-quarter fuel deliveries with three-way crude oil
options with upside protection beginning at $59 per barrel of crude
oil and capped at $69 per barrel.
Domestic available seat mile (ASM) capacity growth for the
industry will exceed U.S. GDP and underlying demand growth this year,
and passenger yield growth will likely be low (or even negative) in
the second and third quarters as a result of slower U.S. economic
growth. In international markets, higher capacity growth rates
(particularly on trans-Atlantic routes) may put pressure on yields and
revenue per ASM this summer. The timing of any softening in
international markets will be an important trend to monitor in the
second and third quarter in determining whether United and the rest of
the industry can expand operating margins in 2007.
United reported a pre-tax loss of $236 million in the seasonally
weak first quarter - a performance that stood in contrast to reported
profitability at AMR and Continental. While the first quarter pre-tax
loss was $70 million better than the comparable year-earlier number,
operating trends were clearly weaker than expected as a result of soft
domestic unit revenue patterns in the quarter. Much of the problem was
related to excess capacity introduced by United and some of its
competitors in January. Management identified the Denver hub as a
particular problem with respect to pricing pressure. A large low-cost
carrier presence at Denver, where Southwest began operations in 2006,
appears to be contributing to yield weakness there. A shift in Mileage
Plus revenue accounting policies drove approximately $107 million in
reduced passenger revenue during the first quarter, but even adjusted
revenue per ASM figures for the period were weak. This was especially
true in North America, where yields and unit revenue both fell by
about 4%. On the cost side, United is hitting its expense reduction
goals; $265 million in additional cost reduction is targeted for all
of 2007. However, inflationary pressures on the maintenance and
airport rents lines will force non-fuel cost per available seat mile
(CASM) up by 1% to 2% for the full year.
Softening domestic revenue trends this year will make it difficult
for United to deliver solid improvements in operating margins;
however, limited calls on operating cash flow for the year should
allow the carrier to meet scheduled debt maturities and continue
de-levering the balance sheet in a modestly weaker industry operating
environment. An upgrade to 'B' for the IDR is possible within the next
12 to 18 months, but largely dependent upon the durability of the
industry revenue recovery and the absence of further sharp spikes in
jet fuel prices.
Management remains focused on the need to re-build its balance
sheet through strong free cash flow generation and scheduled debt
amortization. Beyond contractual commitments, management noted on its
April 25 earnings call that excess cash flow could be targeted toward
additional debt reduction. While the potential return of cash to
shareholders is being analyzed, no plans are in place for a share
repurchase in 2007. Any decision to launch a share repurchase or
dividend program would require lender consultation under the terms of
the amended credit facility.
Fitch's rating definitions and the terms of use of such ratings
are available on the agency's public site, www.fitchratings.com.
Published ratings, criteria and methodologies are available from this
site, at all times. Fitch's code of conduct, confidentiality,
conflicts of interest, affiliate firewall, compliance and other
relevant policies and procedures are also available from the 'Code of
Conduct' section of this site.
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