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Fri, Mar 14, 2003

Chapter 11: It's Not For Everybody

Ironically, the bankruptcy filings of fellow majors US Airways and United have put American (and other premium airlines) at a competitive disadvantage.

One reason Chapter 11 is called 'protection' is that the Debtor in Possession (the Chapter 11 company) is given a reprieve on paying its debts that existed at the time of filing. These so-called 'prepetition debts' are systematically ignored, as the creditors await judges' decisions on when, how, how much -- or if -- they will be paid, once the DIP emerges from Chapter 11.

What that does, in turn, is gives the 'court-protected' airline a whole lot more operating capital -- or, it allows that airline to cut fares. When the Chapter 11 airline can show operating profits, even as it cuts fares and picks up market share, the non-Chapter 11 company can't compete.

Chapter 11 was never designed to shield such huge companies as US Airways, United, and American from their legitimate debts. Twenty years ago, when (graphics manufacturer) AM International became the largest-yet Chapter 11 filing, its annual revenues were well below $1 billion. In the mid-1980s, when (computer peripherals manufacturer) StorageTek filed the largest petition to date, its revenues were also below $1 billion.

'Oligopoly' Isn't Just a Vocabulary Word

The sizes of US Airways, UAL, and AMR are enormous, even in absolute terms; but their size, in their industry, is unfathomable. In an oligopoly (a market where a small number of firms control a large part of the market), the fundamental structural shift of such market leaders is inestimable. It's not just that a majority of the market's players would be 'protected' from paying their debts; it's that the related industries (including everything from the catering companies to the labor providors, the unions), devoted to the industry, are also affected, in ways the designers of the Bankruptcy Code never anticipated.

Contracts, legitimately enforceable in any other arena, are simply set aside by the Court, leaving households devastated, businesses impecunious, faith shattered -- and futures destroyed.

"What if everybody did it?" (That's 'Mom's Rule')

Government and amateur economists, and central planners often ignore the fundamental law of economics, known as "Mom's Rule." If everybody did it, would that be good, or bad? If bad, the proposal should be scrapped -- but this one wasn't. Now, the entire air transport industry, in the US (and with global implications) could be reorganized, not by market forces that try to make it more efficient and more-responsive, but by a court system that's merely trying to make it simpler to administer, with less regard to customers than to interest groups -- and with only a cursory look at the foundation -- responsiveness to market demand -- itself.

By not allowing failing airlines to fail, Chapter 11 is causing other airlines to fail. Mom would not be pleased.

FMI: www.amrcorp.com; www.ual.com; www.usairways.com

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