US Videos

Reading Chapter 11

Jason Stipp

Jason Stipp: I'm Jason Stipp for Morningstar, and welcome to the Friday Five. Bad news for some businesses as headlines of bankruptcy have crept back into the news lately. Morningstar markets editor Jeremy Glaser is joining me today with five bankruptcy-related stories. Thanks for joining me, Jeremy.

Jeremy Glaser: You're quite welcome Jason.

Stipp: What do you have for the Friday five this week?

Glaser: Well this week we are going to talk about American Airlines, retail sales, the Federal Reserve, Europe and finally Hostess.

Stipp: So American was a very high-profile bankruptcy that we heard about a couple of weeks ago. What's the story today? What's the new news on that company?

Glaser: When they went into bankruptcy, it wasn't really clear what their exit strategy was. We knew they were going to try to reduce cost, negotiate with the unions in order to get some of their labor costs down and maybe shed some aircraft that were too expensive for them.

But this week we got word that they have a lot of suitors who may want to take over American Airlines. Delta, TPG, which is a private equity firm, and US Airways all have apparently expressed interest in taking over American Airlines and really trying to integrate their route network into their existing networks, or for TPG’s case, maybe partnering with another airline in order to get American Airlines back to profitability.

I think the question here is going to have to do with anti-trust. Delta is already an incredibly large airline after the merger with Northwest. They are just a little bit smaller than United Continental, another merger, and if Delta were to combine with American Airlines, they really would become a huge monolith. And it is not clear that the federal government would really allow so much concentration in the aviation industry.

But on the other hand, this consolidation has really led to some good financial performance for the airlines. The airline industry has been a running joke in the investment community amongst a lot of investors for a long time, in that it just continues to destroy value. But over the last couple of years, there has been a lot of discipline with capacity, a lot of discipline with pricing, and these mergers really have brought a lot of these companies to profitability.

So, it might actually make sense for one of these mergers in terms of industry profitability, but we just don't know how the government is going to react to the anti-trust issues. I think we will have a few months to talk about this; I don't think any bid is necessarily imminent, but certainly it is going to be an interesting thing to watch and an interesting development in that industry.

Read Full Transcript

Stipp: We have some retail sales data this week. It looked a little bit soft when you looked at just the retail store sales portion of it. Does this mean some retailers could be in for some trouble this year, a rough year for them?

Glaser: I do know if we are going to see a lot of retailers go into bankruptcy, but it certainly seems like consumers are trying to avoid personal bankruptcy by not spending too much during the holiday season.

After we had a pretty good Black Friday I, think there was a lot of hope that the holiday sales season was going to look great, and that just didn't materialize. It wasn't awful; there was an increase, and certainly it is better than we saw just a few years ago when consumer spending just completely cratered.

But it wasn’t as good as a lot of people had hoped. We saw companies pull back on some of the guidance that they had and just not be as excited about the season and just not as generally positive as they were going into the holidays.

But I think still retailers are generally well-positioned, inventories remain pretty lean. There really has been a concerted effort to make sure that they don't get into some of those excess inventory issues that they had, that caught them a little bit flat-footed in 2008.

So I think the retail industry is not going to be in boom times by any stretch of the imagination, but we shouldn't see any mass panic there quite yet.

Stipp: Also this week, Jeremy, we got, after a lag time, minutes from the Fed, way back from 2006. We got to see what they were thinking about the economy, and certainly there was a huge period of bankruptcies and crisis in 2008. What do these minutes say about how much foresight the Fed had at that time?

Glaser: The Federal Reserve did not see the housing crisis come in, and this is something that we knew before. Obviously if you look at their policy recommendations, or you look at Bernanke’s public comments during the time, and they clearly thought that "subprime is contained," a famous phrase of Bernanke, but certainly when you look at the meetings when they were just in private sessions, they also really didn't think that the popping of the housing bubble was really going to have a major spill-over effect into the rest of the economy. They thought that housing was a relatively small part, that even if prices did decline or stayed about the same that everyone would be able to make it through, and that maybe it would even free up capital to be invested elsewhere in the economy. There wasn't really a lot of concern, and there was a lot of laughter over housing developers who were starting to get desperate and throwing in the free Mini Coopers and free upgrades, just trying to get people to buy those places and to get their unsold inventory of their books.

I think it certainly shows you that, as much as the Fed has some of the brightest economists in the country and probably the brightest economists in the world, they still can't see everything that's going on, and that especially going forward when we are going to get long-term predictions of what interest rates are going to look like, what they expect to happen, that everything is subject to change. As the economy actually plays out, and as we see that the housing bubble actually was much more interconnected with the rest of the economy than many people had initially thought, just shows you have to be pretty vigilant about looking for what those potential missteps could be. You can't just rely on exactly what the Fed is saying, you can't just rely on any given economist to make sure that you are totally safe from any economic turmoil.

Stipp: So housing was a big worry back in 2006 that people should have taken more seriously, I think. Fast forward to today; Europe is the worry on a lot of people's mind. Should people be taking Europe more seriously and could it be as disruptive as the housing crash was?

Glaser: I think certainly people do need to be keeping Europe in the front of their mind and it is something that should be taken seriously and that is being taken seriously.

But this week we got some mixed news on the Europe front in terms of seeing if Europe is headed towards bankruptcy, or if they were going to be able to muddle through their sovereign debt crisis.

On the good side we had some pretty positive bond auctions. Both Italy and Spain were able to sell new issuances into the market at a price much better than they were getting just last month, and I think this is indicative of the ECB's new program to refund banks to get money into the marketplace and try to calm investors. So that is definitely working. Being able to refinance that debt that is coming up is crucial, being able to do at relatively low rates is crucial, and buying enough time in order to make some of those structural forums.

But on the other hand, we heard comments from the ECB that there was a lot of downside risk still out there, that even though there are some positive signs, there still are potential problems; S&P’s downgrades, which were not necessarily a surprise, still just shows you that this really is still a serious crisis.

So we are starting to see the beginnings of some good news coming out of the Continent, but we are far from out of the woods there.

Stipp: Number 5, Jeremy, American Icon went stale over the last week. A sign of bankruptcy from a well-known company; what is the story there?

Glaser: Hostess, for the second time in recent memory, is going back to Chapter 11, and I think that maybe a lot of people didn't see this coming. But if you'll excuse me just for one second, you can see they were trying to tell us with their Twinkies forever. It's really in the shape of 11. It clearly means that Chapter 11 was imminent for Hostess. They have been telling us this for a very long time, and they just weren't able to really keep up with the times.

The higher commodity prices for flour and sugar really hurt them, consumer demand has been week for their products, so they're going to take another trip through bankruptcy, hopefully be able to restructure and get back on the shelves. But certainly it's going to be a tough time for them.

Stipp: Well, Jeremy, one for you and one for me. I think we all know what we are doing after the Friday Five this week, but thanks for joining me with all the insights.

Glaser: You are welcome, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.