"Delta: A Wing, a Prayer, a Revamp"

Monday, August 23, 2004

Delta: A Wing, a Prayer, a Revamp
By Brian Grow
Business Week


CEO Gerald Grinstein's long-awaited overhaul plan is on the runway. Getting
pilots on board will be a crucial next step 

After eight months of nail-biting among employees and late nights for senior
managers, Delta Air Lines is finally launching its "strategic reassessment,"
a bold overhaul designed to save the ailing airline from Chapter 11. 

On Aug. 18, Delta CEO Gerald Grinstein presented to the board a turnaround
plan, dubbed "The Delta Solution," in a bid to help the nation's
third-largest airline avoid a spiral into bankruptcy. Delta has lost $5.6
billion over the past three years. In a letter to employees, Grinstein said
that more job cuts are likely, even though Delta has already slashed its
workforce by nearly 16,000 workers to about 60,000. 

"Decisive and comprehensive, this is a 360-degree plan which, when complete,
will transform our product, fleet, network, and cost structure into an
airline that is designed to carve out new and previously uncharted network
airline territory," wrote Grinstein. 

FARE DEAL.  The Atlanta-based carrier needs just such a radical makeover.
With low-cost rivals such as AirTran Airways and Southwest Airlines
competing on more than 70% of Delta's routes, and with fuel costs expected
to rise by $680 million this year, the carrier has been hemorrhaging money.
On July 19, it reported a $2 billion second-quarter loss, after writing off
$1.65 billion in deferred income taxes and additional dues to its pilots'
pension costs, after some 300 of them called it quits in June. 

Cash reserves have dwindled to $2 billion, down from $2.7 billion in
January, and Delta expects to burn $350 million in cash per quarter for the
rest of the year. "The hole grows deeper," Grinstein warned employees in
July. 

Facing the possibility of bankruptcy if cash flow drops below $1.5 billion,
Grinstein now has unleashed the strategic plan he has been developing since
taking the helm last January. The details are still sketchy, but in a
Securities & Exchange Commission filing, Delta disclosed that it has begun a
consent solicitation with aircraft and equipment leaseholders to restructure
those debts outside of Chapter 11. The move could save Delta millions and
result in those bondholders obtaining an equity stake in exchange for
freeing Delta from its current repayment obligations. 

"FUNDAMENTAL CHANGES."  Delta also wants to substantially simplify airfares
for flights out of Cincinnati, its second-largest hub. Unrestricted fares
from Greater Cincinnati/Northern Kentucky International Airport will drop by
as much as 60%, as it seeks to attract new passengers and fend off low-cost
competitors. No flight from Cincinnati will cost more than $499, including
walk-ups, within the lower-48 states. Each flight will have just two
first-class and six economy-class prices. 

Analysts believe such a fare structure could migrate to other Delta hubs.
"We are initiating fundamental changes throughout the company that will make
it easier and more appealing for customers to do business with us," says
Paul Matsen, Delta's chief marketing officer. 

Overall, Delta probably needs at least $2.3 billion in annual cost cuts,
according to airline analyst Ray Neidl at Blaylock & Partners. A big chunk
of that, he believes, has to come from the pilots -- still the industry's
highest-paid. So far, management has demanded $1 billion in pay cuts and
reduced benefits from its 7,500 pilots, while the union has countered with
an offer of $705 million in concessions. 

PENSION BLUES.  The two sides, however, appear to be nearing a compromise:
The pilots' union and senior Delta executives met on Aug. 19 to discuss
demands for an equity stake and a seat on the board in exchange for $1
billion in pay cuts. "A pilot deal is a must-have," says Gary L. Chase,
airline analyst at Lehman Brothers in New York. 

Still, Delta's financial dilemma could worsen. UAL's United Airlines unit,
struggling to cut costs and exit bankruptcy, warned on Aug. 19 that it's
"likely" to terminate its four employee pension plans, which are underfunded
by $6.4 billion. Such a move would almost certainly intensify pressure on
Delta to reduce its own pension-plan payments to remain competitive, say
analysts. 

In the latest proposal to its union, Delta wants to freeze pilots' pensions
and start a new "defined contribution" plan that would reduce payouts. Delta
owes $3.7 billion in cash to its current pension plan, according to
AirlineForecasts, an aviation consulting group. 

DOWN AGAIN.  The toughest nut to crack: Multiple downgrades from
credit-rating agencies have made it almost impossible for Delta to raise new
funds and reduce $20 billion in debt. "We're at the tipping point,"
Grinstein has told analysts. Underscoring the point, on Thursday, Standard &
Poor's downgraded to CCC from CCC+ citing concerns about the possibility of
an out-of-court restructuring of Delta's debt. 

While Delta may be nearing the precipice, Grinstein is chanting his mantra
for restructuring: "Do it once, and do it right." So far, investors like
what they see. On Aug. 20, the stock rose 16%, to $4.22, as word of
Grinstein's fix-it plan began to leak out. At least for now, investors
appear ready to climb aboard his Delta.


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