It has been affirmed that the debt ratings of Continental Airlines, Inc. is as follows: Issuer Default Rating (IDR) at 'B-';
Senior unsecured debt at 'CCC'/RR6 - concluding that the rating outlook for continental is stable.
Ratings for CAL reflect the airline's heavy fixed obligation funding burden, the risk of rising leverage levels in a potentially difficult 2008 industry operating environment, as well as ongoing vulnerability to fuel price and air travel demand shocks. While CAL's recent cash flow generation performance has been encouraging, the operating outlook is increasingly uncertain in light of $90-plus per barrel crude oil prices and growing worries over a possible U.S. economic slowdown in 2008.
Planned available seat mile (ASM) capacity growth will be relatively low next year (2-3%); however, CAL is financing new aircraft deliveries with additional secured debt, and it may see a modest increase in lease-adjusted leverage by year-end 2008.
Cost pressures remain a significant credit concern, especially in light of the big run-up in crude and refined product prices witnessed since September. With relatively modest fuel hedge positions in place (approximately 32% of Q4 purchases hedged with protection above $2.23 per gallon of jet fuel), operating margins will suffer this winter as a result of the fuel price spike.
Moreover, the outlook for 2008 is clearly being influenced by increasing doubts over the health of the U.S. economy and the resilience of both business and leisure air travel demand trends. Fitch expects revenue per available seat mile (RASM) growth for CAL and the entire industry to slow materially next year, pressuring margins and constraining free cash flow generation in a year when CAL's capital spending commitments and debt balances will rise.
On the positive side, CAL's liquidity position is now much stronger after two years of solid unit revenue expansion and good free cash flow generation. As of Sept. 30, unrestricted cash totaled $3 billion. CAL now expects year-end cash balances to total $2.7 billion to $2.8 billion. Fixed obligations for 2008 include approximately $629 million of scheduled debt maturities and approximately $200 million of required cash pension funding. Fitch expects CAL to continue funding its defined benefit pension plans at levels beyond minimum required amounts.
CAL continues to outperform the broader industry in terms of yield and RASM growth?despite the fact that it has been growing faster than most of the other U.S. legacy carriers. International route economics in particular have remained excellent, and the airline expects to grow its international operations further with recently-announced twice-daily trips to London-Heathrow from both the Houston and Newark Liberty hubs, as well as expansion into new Latin American markets to be met partially through the new B737 NG aircraft entering the fleet next year.
Industry-wide adjustments to 2008 capacity growth plans have been consistent during Q4, with CAL, Delta and Southwest all announcing earlier this month that they will pull some additional seats out of the domestic schedule for 2008. This provides some support for a more credible RASM soft landing scenario next year, but Fitch expects earnings and free cash flow to weaken as a result of the softening operating environment.
A change in the Rating Outlook to Positive could follow in 2008 if a significant pull-back in energy prices and/or a continuation of reasonably strong U.S. economic growth drives stable or improving margins and modest improvements in leverage and cash flow coverage metrics. Movement toward industry consolidation could also improve the credit outlook for CAL and all of the legacy carriers.