Richard Squire, a professor at the Fordham University School of Law, teaches corporate bankruptcy law.
Yet there is no danger that the airlines are about to disappear, leaving the flying public grounded after the coronavirus crisis passes. Without a bailout, the air carriers would renegotiate their terms of credit with their lenders outside court, or they would file for Chapter 11 bankruptcy protection. Either way, they would keep flying.
Bailout-seeking companies typically portray bankruptcy as tantamount to corporate death. The business is shut down, the employees are all fired, and the assets are sold off for scrap. The airline industry’s own recent history tells a different story. Between 2002 and 2011, American, Delta, Frontier, Northwest, United and US Airways all filed for Chapter 11. All kept flying throughout, and all emerged intact. (Some have since consolidated by merger.) Most of their customers didn’t even notice.
Chapter 11 is tailor-made for companies like the airlines. It’s for firms that have suffered an unexpected drop in sales but whose core business remains viable. A prolonged sales slump can leave a company insolvent, with revenues inadequate to cover operating expenses plus interest owed on debt. Default then looms, and lenders refuse to roll over their loans. Chapter 11 gives such companies breathing space to keep operating while they negotiate reorganization plans that cut down their debt burdens, converting debt claims to equity. Restored to solvency, the companies are then released from bankruptcy protection. That is what happened to the airlines when they filed for bankruptcy before, and it is what would happen again now.
Trump also said he is worried about airline workers. Airline executives echoed this concern in a letter to congressional leaders Saturday, warning of “draconian measures such as furloughs” unless their companies immediately receive $29 billion in “worker payroll protection” grants (plus another $29 billion in loans or guarantees).
But the carriers would almost certainly be able to continue paying their workers in bankruptcy. Once a public company enters Chapter 11, it rarely has difficulty raising new credit to cover operating costs, such as payroll. This was true even during the 2007-2009 financial crisis, when, despite the general credit crunch, private bankruptcy lending reached a new peak. Bankruptcy loans to companies in Chapter 11 are extremely safe, because the Bankruptcy Code gives the bankruptcy lender a high-priority claim on the assets. And potential bank lenders are now flush with cash, thanks to the Federal Reserve’s market interventions in recent weeks.
Workers from any industry idled during the coronavirus crisis would qualify for unemployment insurance, which Congress can augment as it sees fit. Given this option, there is no good reason to favor airline employees over other workers hurt by the crisis. And a large portion of federal outlays to airlines would end up in the pockets of bondholders and other investors, not employees.
The airlines’ problem is not the sort of illiquidity that plagued much of the financial sector during the 2007-2009 crisis. In a financial panic, banks and other financial firms typically run low on cash not because their revenues have collapsed (or costs spiked) but because their debt is coming due more quickly than expected. That is the essence of a bank run. The Federal Reserve can then keep the banking sector afloat by supplying stopgap credit until the run ends. Because the banks that qualify for such credit remain solvent throughout the crisis, they can repay the Fed in full, with interest, along with their other creditors.
Airlines aren’t running out of cash because their debts are coming due sooner than expected. They’re running out of cash because their revenues are much lower than expected. That’s a solvency problem, not a liquidity problem. Losses are inevitable. The only question is whether Washington leaves the losses with private investors or shifts them to taxpayers.
The president has also said he wants to back the airlines because the current crisis is “not their fault.” True enough, but an industry’s investors ought to bear responsibility for its direct social costs. Otherwise, the industry grows too large while underinvesting in precautions. Airlines doubtlessly provide a socially valuable service. But, as we have seen, that service can sometimes contribute to the spread of a contagious disease. The risk of further spread is why governments are banning international travel and why the public is shunning cramped airplane cabins. The resulting drop in industry revenue is thus the manifestation of a business risk inherent in the service the airlines sell. Airline investors, not taxpayers, should bear the resulting losses.