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Mesa bankruptcy a long time coming - UPDATE: Mesa delisted

Analysis

Nasdaq Stock Market informed Mesa Air Group, a day into a Chapter 11 bankruptcy, it will delist the company and Mesa indicated in a statement it would take no further action. This is the second time the market has delisted Mesa, but Mesa appealed and ultimately regained its listing. Trading in the company's stock will cease at the opening of business on 14-Jan-2010.

Mesa listed USD975,487,000 in assets in its filing along with USD868,591,000 in debts as of 30-Sep-2009. It also said that While having 130 aircraft, the company said 52 were parked and another 25 would have to be shed, according its filing. The triggering event was defaulting on indentures on which the company had issued outstanding notes on a USD35.9 million. Some 96% of consolidated passenger revenues came from its codeshare agreements with Delta, US Airways and United. It also said its consolidated 2009 revenues were approximately USD968 million.

The company employs 3400, 56% of which are represented by unions, including 1,139 pilots and 751 flight attendants

The affidavit filed by President Mike Lotz reveals a highly complex 12-subsidiary company including its four airlines - Mesa, go-Mokulele!, Air Midwest, which is no longer operating, and Freedom. In addition, its subsidiaries include Mesa Air Group Inventory Management, Mesa Air Group, Mesa New York, Mesa In-Flight Inc, Nilchi, Inc, Patar Inc, Regional Aircraft Services, Inc and Ritz Hotel Management. Nilchi, Inc. and Patar, Inc. were formed to hold certain investments. The Ritz business was for crew housing during training. Mesa's indirect subsidiaries, Indigo Mirmar, LLC and Finao Telserra Fund I LLP are owned by direct subsidiaries of Mesa. Nilchi owns an 88% interest in Indigo and Patar owns a 43% interest in Finao. Mesa also owns a 75% direct interest in Mo-Go LLC, which contracts with Mesa Airlines, Inc. to service the go! in Hawaii.

It also showed a continuing, two-year struggle to restructure debt to keep the company floating and, ultimately, the company ran out of both time and creditor patience. One look at their fleet tells the story. Of 130 aircraft, 52 are on the ground and sucking up money without producing a dime of revenue. Mesa also said that would rise to 77 as it shed an additional 25 aircraft - 18 CRJ-200 aircraft and 7 Dash-8 flying under United Express by May. "It was not foreseeable that demand for certain regional aircraft would literally evaporate in less than three years," said Mesa in its filing.

It was never able to shed the 20 Beech 1900Ds it grounded along with Air Midwest which served Essential Air Service Markets. They were financed by Raytheon Aircraft Credit Corporation which remains a creditor to the tune of USD33.6 million. Mesa, with the courts permission, intends to abandon these aircraft. Owed on its owned aircraft - two CRJ 200s, eight CRJ 700s and 14 CRJ 900s is USD393 million. The remainder of its fleet are under leases including 46 CRJ 200s, 12 CJR 700s, 24 CRJ 900s, 16 Dash 8s and 36 ERJ 145s on which is owned an aggregate amount of USD1.62 million.

It also cited a change codeshare model that resulted in the market shifting away from Mesa's operations in favor of other regionals, specifically Republic which became the bank du jour for not only Midwest, Frontier and Mokulele but for US Airways. "For example, certain competitors have negotiated extensions or amendments to their code-share agreements by providing their codeshare counterparties with consideration in the form of stock or cash, secured term loans, or the deferral of the payment of claims owed to the regional carrier," said Lotz in his affidavit.

In addition to its suit and countersuit with Delta, Mesa is also embroiled in a United lawsuit. It is a defendant in an action by United. "Under the United code-share agreement, Mesa has the right to place 10 70-seat aircraft in service for a term through October 31, 2018," Lotz explained. "In 2009-October Mesa tendered notice of its intention to exercise its rights…and provided United with the in-service dates for the aircraft as required…United asserted that Mesa's notice was not in accordance with the terms of the…agreement. Placement of the RJ70s into service with United is important for Mesa's future growth." In November, United filed a declaratory judgment action in the US District Court for the Northern District of Illinois to determine whether or not Mesa's notice was in compliance but the bankruptcy filing automatically stayed the action.

The filing also recounts the long and ambitious history, filled with acquisition of numerous airlines which brought with them various code-sharing arrangements, dating back to its founding by Larry and Janie Risley, who mortgaged their operation - General Aviation Aircraft and Operators - to provide shuttle services from Farmington, NM, which was undergoing an oil boom at the time. Mesa quickly grew in its first decade from a company with one aircraft serving two cities to an organization operating 38 aircraft serving 63 cities. During this same period, Mesa transformed itself from a small, closely-held corporation to a publicly traded company on the Nasdaq exchange.

In 1989, Mesa expanded its operations through a code-share agreement with Midwest Express, serving an extensive network of cities out of Milwaukee, Wisconsin. It later acquired Aspen Airways in 1990 which gave it a codeshare agreement with United out of Denver. Acquisitions continued with the purchase of Air Midwest in 1991, adding US Air as a codeshare partner, and West Air in 1992 adding United Express flying in California and the Pacific Northwest. At the same time Mesa was expanding east with the creation of Florida Gulf and Liberty Express divisions operating code-share flights in the Southeast and Northeast for US Airways. It added America West as a code-sharing partner in 1992.

Two years later, Pittsburgh-based Crown Airways was acquired, further strengthening Mesa's ties to US Air. By 1995, the majority of Mesa's flying was derived from operations associated with codesharing agreements with United, US Air and America West Airlines.

In 1996, Mesa joined the jet age placing Bombardier CRJ 200s into a new form of code-sharing, one that guaranteed revenue from its code sharing agreements rather than use the original pro-rate method which carried more risk for the regional airline partner. Now the risk was all on the major carrier partner.

Regional jet growth continued from 1997-1999, increasing the fleet of CRJ-200 aircraft to 32. In 1999 Mesa announced the acquisition of Charlotte based CCAir which operated de Havilland Dash 8s under a pro-rate agreement with US Air. At the same time Mesa acquired 36 Embraer ERJ-145s, adding them to its US Air codeshare operation.

Meanwhile Air Midwest consolidated the Florida Gulf and Liberty Express operations under its standard and continued pro-rate flying. By 2000, Mesa had substantially increased its share of revenue-guarantee contracts. In 2001 Mesa concluded an agreement with America West to operate larger CRJ-700 and CRJ-900 aircraft under a revenue guarantee arrangement. Indeed, Mesa became the world launch customer for the CRJ 900.

Over the next several years it gained a stellar reputation as a winning regional airline and, in 2005, was named Air Transport World's Regional Airline of the Year. It attributed its success to its focus "on providing a high standard of operating performance, safety and cost efficiency by developing strategies around people, processes, and systems."

Chair Jonathan Ornstein loved to brag about the fact that its success was despite the bankruptcies of all of its code-sharing partners in the aftermath of 9/11. He also noted that not only did they all go bankrupt but US Air went bankrupt twice. This meant the rejection of its code-sharing agreement leaving 59 orphaned aircraft. At this point, Ornstein would usually say in massive understatement, that this put significant strain on Mesa's liquidity.

Unlike its US Air experience, Mesa was able to successfully negotiate agreements with United and Delta during their respective chapter 11 cases mitigating some of the financial exposure from US Air. However, these new deals were at far less favorable terms. The United agreement was for 30 50-seat aircraft with an expiration in April 2010, reduced margins and included a USD30 million payment by Mesa to United Airlines. The Delta agreement was for 30 aircraft through November 2012 with an option to remove eight aircraft by May 2009. Additionally, Mesa agreed to reimburse Delta for lease obligations on 30 Fairchild Dornier aircraft. In March 2007, the Delta codeshare was increased from 30 to 36 50 seaters with early out options on 14 aircraft.

The regional airline industry is littered with the carcasses of dead airlines, killed with the bankruptcy of their major partners so it is a testament that Mesa did not join them. However, one would think that its near-death experiences with major-carrier bankruptcies, would make it more conservative than it was.

Lutz recounted a desperate attempt to deal with its orphaned aircraft in one venture after another. That included the 20 bound for China and its joint venture with Shenzhen Airlines. The deal went bust when the resulting airline Kunpeng began to reject the contract which called for the delivery of another 15 50-seaters to populate its fleet. Instead it ordered larger Embraer jets.

Mesa also created its Hawaiian carrier go! which embroiled it in lawsuits brought by both Hawaiian and Aloha airlines and cost it more than USD50 million in settlements in addition to legal fees.

While Mesa has much to be proud of in its growth, it has fallen a long way. It can be also proud that even in the last quarter for which it reported it was making a profit. But it is also clear that management, while desperately trying to restructure outside of bankruptcy, as recounted by Lotz, it had bitten off more than it could chew and failed to appreciate just how competitive the regional airline industry has become.

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