MAIR Holdings, Inc. (“Holdings” or the “Company”) is the holding company for Mesaba Aviation, Inc., a regional air carrier based in Minneapolis, Minnesota (“Mesaba”) and Big Sky Transportation Co., a regional air carrier based in Billings, Montana (“Big Sky”). Mesaba and Big Sky are each wholly-owned subsidiaries of Holdings. The financial position and results of operations of Mesaba were deconsolidated from the Company’s consolidated financial statements effective October 13, 2005, the date Mesaba filed for bankruptcy protection. Mesaba and Big Sky are the Company’s reportable segments that are managed independently. Additional detail on segment reporting is included in “Item 8. Financial Statements and Supplemental Data, Note 13 — Segment Information” in this Annual Report on Form 10-K.
Operations
Mesaba
Mesaba Bankruptcy
On October 13, 2005 (the “Petition Date”), Mesaba voluntarily filed in the United States Bankruptcy Court for the District of Minnesota (the “Bankruptcy Court”) for bankruptcy protection under Chapter 11 of the United States Bankruptcy Code. Mesaba’s bankruptcy filing was a direct result of events leading up to and following the bankruptcy filing by Northwest Airlines, Inc. (“Northwest”) on September 14, 2005. Northwest is Mesaba’s major customer, and as a result of Northwest’s missed payments to Mesaba before and after Northwest’s bankruptcy filing, Mesaba estimates that Northwest owes Mesaba approximately $29.1 million as of March 31, 2006 under the various agreements between the parties, net of amounts that Mesaba owed to Northwest under these agreements. Northwest has also proposed and made several significant fleet changes that have resulted in Mesaba operating a substantially reduced fleet.
Northwest’s missed payments to Mesaba and Northwest’s actions regarding its fleet and schedule changes adversely affected Mesaba, and Mesaba determined that it could not sustain its operations outside of court protection under Chapter 11 of the Bankruptcy Code. Since the Petition Date, Mesaba has continued, and will continue, to operate its business as a debtor-in-possession under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code, the Federal Rules of Bankruptcy Procedure and applicable court orders. In general, as a debtor-in-possession, Mesaba is authorized under Chapter 11 to continue to operate as an ongoing business, but may not engage in transactions outside the ordinary course of business without the prior approval of the Bankruptcy Court. All of Mesaba’s vendors are being paid for all goods furnished and services provided to Mesaba after the Petition Date in the ordinary course of business. However, under Section 362 of the Bankruptcy Code, actions to collect most of Mesaba’s prepetition liabilities are automatically stayed.
Mesaba intends to utilize the Chapter 11 process to reorganize its business and emerge as a competitive and profitable supplier of regional flights. Mesaba’s major goals to be realized through the Chapter 11 process include:
• restructuring its costs to realize savings, including both labor and non-labor contracts related to its operations;
• “right-sizing” its workforce and overhead to account for Mesaba’s reduced fleet; and
• affirming Mesaba’s relationship with Northwest. Mesaba has taken many actions to achieve these goals, several of which are discussed in more detail below. Mesaba must ultimately confirm a plan of reorganization to successfully emerge from bankruptcy. Mesaba will continue to refine its Chapter 11 goals as it deems necessary to respond to changing conditions.
As provided by the Bankruptcy Code, on November 2, 2005, the United States Trustee for the District of Minnesota appointed an Official Committee of Unsecured Creditors (the “Creditors’ Committee”). The Creditors’ Committee and its legal representatives have a right to be heard on all matters that come before the Bankruptcy Court concerning Mesaba’s reorganization. There can be no assurance that the Creditors’ Committee will support Mesaba’s positions or plan of reorganization.
Under Section 365 of the Bankruptcy Code, Mesaba may assume, assume and assign, or reject certain executory contracts and unexpired leases, including leases of real property, subject to the approval of the Bankruptcy Court and certain other conditions. In general, if Mesaba rejects an executory contract or unexpired lease, it is treated as a prepetition breach of the lease or contract in question and, subject to certain exceptions, relieves Mesaba of performing any future obligations. However, such a rejection entitles the lessor or contract counterparty to a prepetition general unsecured claim for damages caused by such deemed breach and, accordingly, the counterparty may file a claim against Mesaba for such damages. Mesaba’s original Section 365 deadline related to real estate leases was December 12, 2005. On June 6, 2006, the Bankruptcy Court extended the Section 365 deadline to the earlier of confirmation of a reorganization plan or December 10, 2006.
Mesaba’s rights relative to certain leases, particularly aircraft and aircraft-related leases, are governed by Section 1110 of the Bankruptcy Code. Section 1110 provides a 60 day deadline from the date of filing for bankruptcy by which, absent agreement with the other party or authorization by the Bankruptcy Court, Mesaba must take action with respect to such lease, after which the applicable lessor’s, sublessor’s, secured party’s or vendor’s right to take possession of the relevant equipment and to enforce its rights is not limited or affected by the automatic stay provision of the Bankruptcy Code. Northwest and Mesaba initially agreed to extend the deadline with respect to aircraft Mesaba leases or subleases from Northwest. Although that agreement expired as of February 15, 2006, Mesaba continues to use the aircraft in accordance with Northwest’s scheduling requests and is performing under the subleases for all aircraft that have not been idled at Northwest’s request. Because the aircraft currently operated by Mesaba are subleased from Northwest, Mesaba’s decisions with respect to such aircraft will be timed with Northwest’s fleet plan decisions made during Northwest’s bankruptcy.
Mesaba’s estimate of its liability for prepetition general unsecured claims is reflected in Mesaba’s “liabilities subject to compromise.” Mesaba’s deconsolidated balance sheet at March 31, 2006 includes $60.0 million in liabilities subject to compromise. See “Item 8. Financial Statements and Supplemental Data, Note 20 — Financial Information of Mesaba” for additional information. Mesaba expects its liabilities subject to compromise to change in the future as a result of future negotiations with creditors or damage claims created by Mesaba’s rejection of various aircraft leases, executory contracts and unexpired leases. Generally, if Mesaba assumes an aircraft financing agreement, executory contract or unexpired lease, Mesaba is required to provide for a cure for existing defaults under such contract or lease as a condition to such assumption.
Section 1113 of the Bankruptcy Code provides that a debtor may reject its collective bargaining agreements (“CBAs”) if the debtor first satisfies various statutory requirements and obtains the Bankruptcy Court’s approval of such rejection. Mesaba commenced Section 1113 proceedings with all four of its unions, and on January 31, 2006, the Bankruptcy Court approved Mesaba’s tentative agreement reached with the Transport Workers’ Union (“TWU”). The Bankruptcy Court heard testimony from Mesaba and the remaining three unions for Mesaba’s pilots, mechanics and flight attendants in February and March 2006. On May 18, 2006, the Bankruptcy Court denied Mesaba’s motion to reject. Although the Bankruptcy Court agreed with Mesaba’s core business assumptions, the court ruled that Mesaba failed to satisfy certain technical elements required to authorize rejection of the labor contracts under Section 1113. The Bankruptcy Court stated that if Mesaba chooses to remedy the defects in its original motion, the court would hear a renewed motion in a prompt manner. On June 12, 2006, Mesaba filed a renewed motion for authority to reject its CBAs, and the Bankruptcy Court began hearing the motion on June 26, 2006. There can be no assurance that Mesaba will ultimately obtain the labor cost savings it requires to successfully reorganize.
Pursuant to Mesaba’s request for debtor-in-possession financing, in October 2005, Holdings provided a commitment letter and term sheet to Mesaba for such financing. At Mesaba’s request, Holdings extended the deadline for the expiration of the commitment letter two times. On March 24, 2006, the commitment expired. Mesaba is seeking debtor-in-possession financing from other sources, but there can be no assurance that Mesaba will be able to obtain such financing on acceptable terms. If Mesaba is unable to obtain debtor-in-possession financing by the end of the second quarter of fiscal 2007, Mesaba may not have sufficient cash to continue to fund its operations.
To successfully emerge from Chapter 11, the Bankruptcy Court must confirm a plan of reorganization, the filing of which will depend on the timing and outcome of numerous ongoing matters in the Chapter 11 process, potentially including the outcome of Northwest’s Chapter 11 case. The reorganization plan will be subject to a vote by certain classes of creditors, including Mesaba’s secured creditors and unsecured creditors. The Bankruptcy Court will generally not approve a reorganization plan unless all impaired classes of creditors vote to accept the plan; however, Mesaba may elect to invoke certain provisions of the Bankruptcy Code in order to obtain confirmation of the plan over the vote of a dissenting class of creditors. In addition to the voting requirements for confirmation, Mesaba will have to satisfy other provisions of the Bankruptcy Code in order to confirm its reorganization plan, including showing that the plan is feasible. Additionally, the absolute priority rule in the Bankruptcy Code requires that all of the debtor’s creditors must be paid in full; otherwise the equity holders in the debtor are not entitled to retain their equity interests, unless certain exceptions to the absolute priority rule are met.
Mesaba had the exclusive right for 120 days from the Petition Date to file a plan of reorganization, followed by 60 days in which to obtain acceptance of the plan. On March 9, 2006, the Bankruptcy Court approved a motion filed by Mesaba to extend the deadline for Mesaba’s exclusive right to file such a plan to August 10, 2006. Mesaba intends to file a plan of reorganization as soon as it is able, but there can be no assurance that a reorganization plan will be proposed by Mesaba within the required time frame or that any additional extensions Mesaba may request will be approved. Additionally, there can be no assurance that the Bankruptcy Court will confirm any plan of reorganization proposed by Mesaba or that any such plan will be implemented successfully. The reorganization plan will determine the rights and claims of various creditors and security holders. At this time, it is not possible to predict accurately the effect of the Chapter 11 reorganization process on Mesaba’s business, nor can Mesaba make any predictions concerning how the various creditor claims and interests of security holders will be determined in the bankruptcy proceedings.
Mesaba Operations
Mesaba operates as a regional air carrier providing scheduled passenger service as “Mesaba Airlines/Northwest Airlink” and “Mesaba Airlines/Northwest Jet Airlink” for Northwest. As discussed above, both Northwest and Mesaba filed for Chapter 11 bankruptcy protection on September 14, 2005 and October 13, 2005, respectively. Mesaba’s relationship with Northwest is governed by the Airline Services Agreement (the “ASA”) dated August 29, 2005. Prior to the ASA, Mesaba provided regional airline services to Northwest pursuant to two separate agreements, an Airline Services Agreement (the “Airlink Agreement”) that governed Mesaba’s operation of Saab 340 jet-prop aircraft (“Saabs”), and a Regional Jet Services Agreement (the “Jet Agreement”) that governed Mesaba’s operation of Avro RJ85 regional jets (“Avros”). The ASA is a ten-year omnibus agreement that incorporates the existing payment terms for the Saabs and Avros contained in the Airlink Agreement and the Jet Agreement, and adds new payment terms for the Canadair regional jets (“CRJs”) that Mesaba began operating in October 2005. As of March 31, 2006, Mesaba served 102 cities in the United States and Canada from Northwest’s hub airports located in Minneapolis/St. Paul, Detroit and Memphis.
Northwest purchases Mesaba’s entire capacity and pays Mesaba in arrears on the 11 th and 26 th of each month for regional airline services that Mesaba provides to Northwest utilizing the Saabs and Avros. Beginning in October 2005, Northwest began paying Mesaba, on a regular bi-monthly basis, on the 1 st and 16 th of each month for regional airline services that Mesaba provides to Northwest utilizing the CRJs. The CRJ payment made on the 1 st of each month represents a prepayment based on an estimate of regional airline services to be provided by Mesaba for the first 15 days of the month. The CRJ payment made on the 16 th of the month consists of a prepayment based on an estimate of regional airline services to be provided by Mesaba for the 16 th through the end of the month, as well as a true-up amount adjusting for actual services provided by Mesaba in the prior month.
For flights utilizing the Saabs, Mesaba recognizes revenue for each completed available seat mile, or “ASM” (the number of seats in an aircraft multiplied by the number of miles those seats are flown), and purchases fuel which is set at a fixed price of $0.835 per gallon, ground handling and other services from Northwest. Mesaba paid Northwest $18.3 million, $21.9 million and $19.7 million for ground handling and other services fiscal 2006, 2005 and 2004, respectively.
For flights utilizing the Avros, Mesaba recognizes revenue for each block hour flown (the elapsed time between aircraft departing and arriving at a gate). Northwest provides fuel and airport and passenger related services at Northwest’s expense for the Avros.
For flights utilizing the CRJs, Mesaba recognizes revenue through monthly expense reimbursement payments for actual expenses incurred relating to aircraft rent, maintenance, landing fees and fuel (which is set at a fixed price of $0.70 per gallon for the CRJs); semi-monthly payments for each block hour and cycle operated; a monthly fixed cost payment based on the size of the CRJ fleet (intended to cover Mesaba’s costs that are not reimbursed through the monthly reimbursement payments, which consist mainly of labor costs, ground handling costs, overhead and depreciation) and margin payments based on the revenues described above calculated to achieve a target operating margin. The target operating margin through April 2007 is set at a fixed amount, after which time the target operating margin will be based on the average operating margin of the publicly traded United States domestic regional airlines operating primarily regional jet aircraft, excluding Pinnacle Airlines Corp. (“Pinnacle”), and any regional carrier under bankruptcy protection, subject to a margin cap and floor.
The ASA contains termination provisions that allow both Mesaba and Northwest to terminate the ASA in the event the other party breaches the agreement, subject to the other party’s right to cure the breach within a prescribed time period. Additionally, Northwest may terminate the ASA in the event of certain lease and other performance defaults by Mesaba; failure by Mesaba to maintain required insurance coverage; failure by Mesaba to allow inspections pursuant to the ASA; change in control events; revocation or failure by Mesaba to obtain Department of Transportation (“DOT”) certification; if Mesaba or its affiliates operate an aircraft type that causes Northwest to be in violation of its collective bargaining agreement with its pilots; failure to elect a chief executive officer/president of Holdings or Mesaba reasonably acceptable to Northwest; if a specified percentage of the aircraft subject to the agreement are not operated for a specified period of time, other than as a result of the Federal Aviation Administration (the “FAA”) grounding all aircraft for all carriers; if there is a strike, cessation or interruption of work involving Mesaba pilots, flight attendants or mechanics providing service; or if Holdings breaches its agreement entered into with Northwest concurrently with the ASA.
Under the ASA, all scheduled flights that Mesaba operates are designated as Northwest flights using Northwest’s designator code in all computer reservation systems with an asterisk and a footnote indicating that Mesaba is the carrier providing the service. In addition, flight schedules of Mesaba and Northwest are closely coordinated to facilitate interline connections, and Mesaba’s passenger gate facilities at the Minneapolis/St. Paul International Airport, Detroit Metropolitan Airport and Memphis International Airport are integrated with Northwest’s facilities in the main terminal buildings.
Mesaba, through the ASA, receives ticketing and certain check-in, baggage, freight and aircraft handling services from Northwest at certain airports. In addition, Mesaba receives its computerized reservations services from Northwest. Northwest also performs all marketing, scheduling, yield management and pricing services for Mesaba’s flights.
The ASA provides for incentive payments from Northwest to Mesaba based on achievement of certain operational goals on a semi-annual basis. Such incentives totaled $3.7 million, $3.1 million and $4.6 million in fiscal 2006, 2005 and 2004, respectively.
Approximately $25.7 million, net of reserve, or 79.2% and $25.9 million, or 88.8%, of Mesaba’s March 31, 2006 and 2005 accounts receivable balances were due from Northwest and were not collateralized.
Upon execution of the ASA, and pursuant to a separate agreement between Holdings and Northwest, Holdings issued to Northwest an amended and restated warrant (the “Warrant”) to replace the warrants held by Northwest to reduce the number of shares of Holdings’ common stock issuable upon exercise from 4,151,922 shares exercisable at prices ranging from $7.25 to $21.25 per share to an aggregate of 4,112,500 shares exercisable at a price of $8.74 per share. The Warrant expires ten years from the date of the ASA. The Warrant will become exercisable for sixty percent of the shares upon the delivery by Northwest of the 15 th CRJ aircraft to Mesaba and an additional 4% of the shares with each subsequent delivery of each of the next ten CRJ aircraft.
To date, Northwest has delivered only two CRJ aircraft to Mesaba. Northwest has advised Mesaba that it will remove one of the CRJs that Mesaba currently operates and place the CRJ with Northwest’s newly formed subsidiary, Compass Airlines, Inc. (“Compass”). As part of its reorganization, Northwest has also requested bids from regional airlines for the operation of up to 126 CRJ aircraft, 124 of which are currently operated by Pinnacle and two of which are operated by Mesaba. Mesaba has submitted a proposal to conduct all CRJ flying for Northwest. If Mesaba is not awarded some or all of the CRJ business, Northwest will remove the other CRJ that Mesaba currently operates. If Mesaba is awarded additional CRJs by Northwest, it is possible that the terms of the Warrant may be renegotiated to reflect any new arrangement between the parties.
Holdings also entered into a registration rights agreement to cover the registration of the shares of stock currently held by Northwest and the shares of stock that could be issued to Northwest upon exercise of the Warrant. To date, the Company has not filed this registration statement, and it is unlikely that one will be filed unless and until the exact nature of the relationship between Mesaba and Northwest is determined via each company’s respective bankruptcy proceedings.
In connection with the ASA, Mesaba incurred all of the start-up costs necessary to bring the CRJ fleet into service. For the fiscal year ended March 31, 2006, Mesaba incurred and expensed approximately $7.0 million in start-up costs related to adding the CRJ aircraft into its fleet, and Holdings incurred and expensed approximately $0.3 million in related start-up costs. Finally, in connection with the ASA, and pursuant to its separate agreement with Northwest, Holdings made a capital contribution of approximately $31.7 million to Mesaba in September 2005, just prior to Northwest filing for bankruptcy.
Big Sky
Big Sky operates as a regional air carrier based in Billings, Montana, providing scheduled passenger, freight, express package and charter services. As of March 31, 2006, Big Sky provided scheduled air service to 22 communities in Montana, Colorado, Idaho, Oregon, Washington and Wyoming. Big Sky operates daily scheduled flights providing interline and online connecting services and local market services. Big Sky also has code-sharing agreements with Alaska Airlines, Horizon Air, America West Airlines, US Air and Northwest, where its services are marketed jointly with those air carriers for connecting flights. Big Sky began service to Pocatello, Idaho and Walla Walla, Washington in the fourth quarter of fiscal 2006.
Big Sky participates in the Essential Air Service (“EAS”) program with the DOT. The EAS program subsidizes air carriers to provide air service to designated rural communities throughout the country that could not otherwise economically justify that service based on their passenger traffic. The DOT pays EAS subsidies for each departure in a covered market. Big Sky was recently reselected as the EAS provider for seven Montana cities for a two-year period beginning March 1, 2006.
Big Sky purchased fuel from Northwest for $1.4 million, $1.7 million and $1.9 million in fiscal 2006, 2005 and 2004, respectively.
Regulations
Pursuant to Federal aviation laws, the DOT and the FAA have certain regulatory authority over the operations of all air carriers. The jurisdiction of the FAA extends primarily to the safety and operational provisions of the Federal Aviation Act, while the responsibility of the DOT involves principally the regulation of certain economic aspects of airline operations.
FAA Regulation
Mesaba and Big Sky each hold an air carrier certificate issued by the FAA permitting Mesaba and Big Sky to conduct flight operations in compliance with Federal Aviation Regulations, which are the same regulatory requirements applicable to major airlines. The FAA regulations to which Mesaba and Big Sky are subject are extensive and include, among other items, regulation of aircraft maintenance and operations, equipment, ground facilities, dispatch, communications, training, weather observation, flight personnel and other matters affecting air safety. To ensure compliance with its regulations, the FAA requires airlines to obtain operating, airworthiness and other certificates that are subject to suspension or revocation for cause. Mesaba and Big Sky hold all certificates necessary for their operations.
Under FAA regulations, Mesaba and Big Sky have established, and the FAA has approved, maintenance programs for all aircraft they operate. These programs provide for the ongoing maintenance of Mesaba’s and Big Sky’s aircraft, ranging from frequent routine inspections to major overhauls. Mesaba’s and Big Sky’s aircraft require various levels of maintenance or “checks” and periodically undergo complete overhauls. Maintenance programs are monitored closely by the FAA, with FAA representatives routinely present at the airline’s maintenance facilities. The FAA issues Airworthiness Directives (“ADs”), which mandate changes to an air carrier’s maintenance program. These ADs, which include requirements for structural modifications to certain aircraft, are issued to ensure that the nation’s transport aircraft fleet remains airworthy. Mesaba and Big Sky are currently, and expect to remain, in compliance with all applicable requirements under all ADs and FAA approved maintenance programs. DOT Regulation
Mesaba and Big Sky each hold a Certificate of Public Convenience and Necessity issued by the DOT under federal aviation laws. As certificated carriers, Mesaba and Big Sky are required to file quarterly reports with the DOT, including a report of aircraft operating expenses and related statistics.
Transportation Security Administration Regulation
In response to the terrorist attacks of September 11, 2001, Congress enacted the Aviation and Transportation Security Act of 2001 (the “ATSA”). The ATSA created the Transportation Security Administration (the “TSA”) to oversee aviation and airport security. Among other security measures, the ATSA enhanced background checks, provided for federal air marshals aboard flights, improved flight deck security, enhanced airline crew security training, improved training of security screening personnel and enhanced airport perimeter access.
Emergency Wartime Supplemental Appropriations Act
In April 2003, Congress enacted the Emergency Wartime Supplemental Appropriations Act (the “Wartime Act”), which included, among other items, a $2.3 billion grant to United States airlines for security fees previously remitted to the TSA and $100 million for reimbursement of aircraft cockpit door reinforcement costs. In connection with reimbursements under the Wartime Act, for the year ended March 31, 2004, Mesaba recognized $2.3 million as “other nonoperating income,” and Big Sky recognized $0.3 million as “other nonoperating income” and $0.2 million as a reduction of “administrative and other expense” in the accompanying consolidated statements of operations. Expenditure of these funds requires compliance with the provisions of the Wartime Act.
Railway Labor Act
Mesaba’s and Big Sky’s relations with its labor unions are governed by the Railway Labor Act (the “RLA”). Comprehensive provisions are set forth in the RLA establishing the right of airline employees to organize and bargain collectively and imposing a duty upon air carriers and their employees to exert every reasonable effort to make and maintain collective bargaining agreements. The RLA contains detailed procedures which must be exhausted before a lawful work stoppage may occur, including a formal declaration of an impasse by the National Mediation Board.
Environmental Regulations
Mesaba and Big Sky are subject to regulation under various environmental laws and regulations, including the Clean Air Act, the Clean Water Act and Comprehensive Environmental Response, Compensation and Liability Act of 1980. In addition, many state and local governments have adopted environmental laws and regulations to which Mesaba’s and Big Sky’s operations are subject. Environmental laws and regulations are administered by numerous federal and state agencies. Management of Mesaba and Big Sky believe that they are in compliance with standards for aircraft exhaust emissions and fuel storage facilities issued by the Environmental Protection Agency.
Other Regulations
Under the Noise Control Act of 1972 and the Aviation Safety and Noise Abatement Act of 1979, the FAA has authority to monitor and regulate aircraft engine noise. Management of Mesaba and Big Sky believe that their aircraft comply with or are exempt from such regulations. As a foreign carrier operating in Canada, Mesaba is subject to regulation by Canada’s Transport Canada department and has been issued a Foreign Air Carrier Operating Certificate and Canadian Transportation Agency economic license. Because Northwest maintains certain contracts with the Department of Defense, Mesaba is subject to that department’s periodic inspections. Insurance
The Company carries the types of insurance customary in the airline industry, including coverage for public liability, passenger liability, property damage, aircraft loss or damage, baggage and cargo liability, war risk, directors’ and officers’ and workers’ compensation. Mesaba, through the ASA, purchases aviation liability, war risk and hull coverage through a combined placement with Northwest. The ASA requires that Mesaba maintain specified levels of insurance coverages and also obligates Northwest to use commercially reasonable efforts to allow Mesaba to continue to participate in Northwest’s insurance plan.
Both Mesaba and Big Sky were given the option under the ATSA to purchase certain third-party war risk liability insurance from the United States government on an interim basis at rates that are more favorable than those available from the private market. Mesaba and Big Sky have purchased this insurance from the FAA as provided under the ATSA.
Competition
The airline industry is highly competitive as a result of the Airline Deregulation Act of 1978 (the “Deregulation Act”), which generally increased competition by eliminating restrictions on fares and route selection. The Deregulation Act also contributed to the withdrawal of national and major carriers from short-haul markets by allowing them to more easily obtain additional long-haul routes, which can be more efficiently and profitably served by larger jet aircraft. Elimination of barriers to entry into new markets, however, also created greater potential for competing service by other carriers operating small, fuel-efficient aircraft on short-haul routes serving small and medium-sized cities. Mesaba and Big Sky compete with other regional airlines on most routes they serve. Mesaba and Big Sky also face competition from regional carriers offering service to alternative hubs for connecting flights. Other carriers, including major carriers, can at any time institute competing service on routes served by Mesaba or Big Sky.
The ASA does not prohibit Northwest from contracting with other regional airlines to provide the same services that Mesaba currently provides. Northwest currently has an airline services agreement with Pinnacle, and Pinnacle serves many of the same cities as Mesaba. Northwest could choose to expand its agreement with Pinnacle in competition with Mesaba. Northwest could also choose to establish relationships with other regional airlines. Finally, Northwest has formed a new subsidiary, Compass, and Northwest intends to use this subsidiary to operate regional flights.
Competitive factors in the airline industry generally include fares, frequency and dependability of service, convenience of flight schedules, type of aircraft flown, airports served, relationships with travel agents, and efficiency and reliability of reservations systems and ticketing services. The compatibility of flight schedules with those of other airlines and the ability to offer through fares and convenient inter-airline flight connections are also important competitive factors.
Fuel
The Company believes that the following arrangements assure an adequate supply of fuel for current and future operations for both Mesaba and Big Sky, provided that Northwest does not experience a supply shortage.
Mesaba
Mesaba has arrangements with Northwest for its fuel requirements. Certain provisions of the ASA protect Mesaba from fluctuations in aviation fuel prices for Saab and CRJ flights. The ASA also requires Northwest to provide fuel for the Avros, at Northwest’s expense, to Mesaba. Big Sky
Big Sky purchases its fuel under arrangements with several fuel suppliers. None of these arrangements provides protection from fluctuations in fuel prices and supply.
Fares
Mesaba
Mesaba derives its passenger revenue by selling its capacity to Northwest at predetermined rates. Under the ASA, Mesaba is primarily paid by Northwest per available seat mile or per completed block hour, depending on the type of aircraft operated.
Big Sky
Big Sky generates its passenger revenues from passenger ticket sales through participation in Airline Reporting Corp., a clearinghouse for travel agencies, its own reservations center in Billings, a ticket by mail program and on-line e-ticketing. Big Sky has ticketing and baggage agreements with all major airlines that serve its region, which allow its services to be sold by those airlines. Big Sky establishes its passenger fares on a market-by-market basis utilizing a combination of factors, including the cost of providing the service based upon projected passenger levels, the competitive price of alternative means of transportation (including both air and surface) and the distance between markets.
Aircraft Maintenance
The maintenance performed on Mesaba’s and Big Sky’s aircraft can be divided into two general categories: routine line maintenance and major overhauls. Line maintenance consists of routine daily and weekly scheduled maintenance checks on aircraft, including pre-flight, daily, weekly and overnight checks and any diagnostic and routine repairs. Mesaba and Big Sky employ their own aircraft, avionics and engine maintenance staffs that perform substantially all routine line maintenance to the aircraft and engines. Mesaba contracts out most of its major overhauls on airframes, engines and other rotable parts on the aircraft at FAA authorized facilities. Major overhauls on Big Sky’s fleets, including airframes, engines and other rotable parts, are performed internally or at FAA authorized facilities.
Airport and Terminal Services
Mesaba’s ticket counter and baggage-handling space is leased from local airport authorities or other airlines at all of the airports served. In certain of the cities it serves, Mesaba receives support services under agreements with Northwest. In accordance with the ASA, for flights utilizing Saabs, Mesaba pays local airport authorities for the use of the landing fields at rates that are based on the number of flights per day, fixed fees or on the number of aircraft landings and aircraft weight. Northwest pays for Mesaba’s landing fees for flights utilizing Avros.
Mesaba receives other revenue from Northwest, Pinnacle and other airlines for ground handling services performed at the Minneapolis/St. Paul, Detroit and other spoke airports.
Big Sky leases airport counter, baggage and ramp space for ground services and customer services at all of the cities it currently serves. Big Sky contracts for ground handling services from other airlines as needed. Employees
As of March 31, 2006, Holdings had five employees, and its subsidiaries employed 3,779 employees with approximately 41% of those employees represented by labor unions. Mesaba had 3,535 (1,128 part-time) employees, and Big Sky had 244 (58 part-time) employees. Neither Mesaba nor Big Sky had any official work stoppages during fiscal 2006. The Company’s labor agreements are as follows:
Mesaba
|
Employee Group |
Approximate |
Union |
Amendable Date |
||||
|
Pilots |
|
750 |
|
Air Line Pilots Association ("ALPA") |
|
January 2009 |
|
|
Mechanics |
|
227 |
|
Aircraft Mechanics Fraternal Association ("AMFA") |
|
August 2003 |
|
|
Dispatchers |
|
28 |
|
TWU |
|
May 2005 |
|
|
Flight Attendants |
|
410 |
|
Association of Flight Attendants |
|
April 2006 |
|
|
Customer service agents |
|
1,684 |
|
None |
|
|
|
|
Management / |
|
436 |
|
None |
|
|
|
|
|
|
3,535 |
|
|
|
|
|
As discussed above in “Mesaba Bankruptcy,” Mesaba sought approval from the Bankruptcy Court to reject all of its CBAs and impose new contract terms on its labor unions. On January 31, 2006, the Bankruptcy Court approved Mesaba’s tentative agreement reached with the TWU. The Bankruptcy Court heard testimony from Mesaba and the remaining three unions for Mesaba’s pilots, mechanics and flight attendants in February and March 2006. On May 18, 2006, the Bankruptcy Court denied Mesaba’s motion to reject. Although the Bankruptcy Court agreed with Mesaba’s core business assumptions, the court ruled that Mesaba failed to satisfy certain technical elements required to authorize rejection of the labor contracts. The Bankruptcy Court stated that if Mesaba chooses to remedy the defects in its original motion, the court would hear a renewed motion in a prompt manner. On June 12, 2006, Mesaba filed a renewed motion for authority to reject its CBAs, and the Bankruptcy Court began hearing the motion on June 26, 2006. Mesaba is continuing to negotiate with its unions and remains committed to reaching consensual agreements. However, there can be no assurance that Mesaba will be able to do so. Big Sky
|
Employee Group |
Approximate |
Union |
Amendable Date |
||||
|
Pilots |
|
68 |
|
United Transportation Union |
|
December 2009 |
|
|
Mechanics |
|
27 |
|
International Association of Machinists and Aerospace Workers |
|
August 2010 |
|
|
Dispatchers |
|
9 |
|
United Transportation Union |
|
December 2009 |
|
|
Customer service agents |
|
105 |
|
None |
|
|
|
|
Management / |
|
35 |
|
None |
|
|
|
|
|
|
244 |
|
|
|
|
|
Cyclicality and Seasonality
The airline industry generally is subject to cyclical moves in the economy. Because both personal discretionary travel and business travel may be expected to decline during periods of economic weakness, the airline industry tends to experience poorer financial results during such periods.
Mesaba’s cyclicality is tied to the business and operating decisions of Northwest. Operations of the major airlines continue to be impacted by the rapid growth of low cost airlines, the increasing number of businesses utilizing teleconferencing or web-based meetings and the advent of internet travel web sites, which enable consumers to find travel alternatives. Mesaba has historically shown greater revenues and earnings in the first and second fiscal quarters. Northwest has historically seen increased leisure travel during these periods on domestic and international routes, which contributes to an increased number of flights for Mesaba.
Seasonal factors, primarily weather conditions and passenger demand, generally affect Big Sky’s monthly passenger boardings. Big Sky has historically shown a higher level of passenger boardings in the July through December period as compared with the January through June period for many of the cities served. As a result of such factors, Big Sky’s revenues and earnings have shown a corresponding increase during the July through December period.
Recent Developments
As discussed more fully in “Item 8. Financial Statements and Supplemental Data, Note 19 — Subsequent Events,” Holdings unconditionally guaranteed Mesaba’s obligations related to Mesaba’s facility at the Cincinnati/Northern Kentucky International Airport. In accordance with this guaranty, Holdings has been making the required bond and lease payments on the facility since the Petition Date. On February 15, 2006, Holdings received notice declaring Holdings’ liability for all sums to be immediately due and payable. On April 18, 2006, Holdings entered into an agreement with UMB Bank, N.A. (“UMB”), the trustee for the bondholders, under which UMB agreed to forbear acceleration of Holdings’ guarantee obligations in exchange for Holdings delivering a letter of credit in the amount of $13.1 million to secure the payment of the obligations guaranteed by Holdings to UMB. Available Information
The Company maintains a website at www.mairholdings.com. On its website, free of charge, the Company makes available its Annual Report on Form 10-K and links to the SEC website for other public filings. The company’s Code of Ethics for its Chief Executive Officer and financial officers is also available on its website. All information is also available in print upon written request to the Company’s General Counsel at 150 South Fifth Street, Suite 1360, Minneapolis, Minnesota 55402. The Company is not including the information contained on or available through its website as a part of, or incorporating such information by reference into, this Annual Report on Form 10-K.
Item 1A. RISK FACTORS
The Company’s operations and financial results are subject to various risks and uncertainties, some of which are described below. The Company could also be adversely affected by additional risks and uncertainties not presently known or believed to be material.
Risks Related to Mesaba’s Bankruptcy
Mesaba’s operation during bankruptcy and its emergence from bankruptcy will require interaction with its Creditors’ Committee.
The United States Trustee for the District of Minnesota has appointed a Creditors’ Committee in Mesaba’s bankruptcy case. The Creditors’ Committee and its legal representatives have a right to be heard on all matters that come before the Bankruptcy Court concerning Mesaba’s reorganization. There can be no assurance that the Creditors’ Committee will support Mesaba’s positions or its plan of reorganization, and any disagreements between the Creditors’ Committee and Mesaba could protract the Chapter 11 process, hinder Mesaba’s ability to operate during the Chapter 11 process and delay Mesaba’s emergence from Chapter 11.
If Mesaba is unable to obtain debtor-in-possession financing, it may be unable to emerge from bankruptcy.
When Mesaba filed for Chapter 11 bankruptcy protection, Holdings provided a commitment to provide a certain level of debtor-in-possession financing. Holdings’ commitment to provide such financing expired on March 24, 2006. Mesaba is actively seeking financing from other sources, but there can be no assurance that Mesaba will be able to obtain such financing. If Mesaba is unable to obtain adequate debtor-in-possession financing by the end of the second quarter of fiscal 2007, Mesaba could run out of cash and be forced to convert to a Chapter 7 bankruptcy liquidation.
If Mesaba is unable to confirm a reorganization plan, it may be unable to emerge from bankruptcy.
In order for Mesaba to emerge from bankruptcy, the Bankruptcy Court must approve a reorganization plan for Mesaba. The reorganization plan will be subject to a vote by certain classes of creditors, including Mesaba’s secured creditors and unsecured creditors. The Bankruptcy Court will generally not approve a reorganization plan unless all impaired classes of creditors vote to accept the plan; however, Mesaba may elect to invoke certain provisions of the Bankruptcy Code in order to obtain confirmation of the plan over the vote of a dissenting class of creditors. In addition to the voting requirements for confirmation, Mesaba will have to satisfy other provisions of the Bankruptcy Code in order to confirm its reorganization plan, including showing that the plan is feasible. If Mesaba is unable to meet these confirmation requirements, it may be unable to emerge from bankruptcy. If Holdings is unable to find an alternate sublessee for Mesaba’s Cincinnati/Northern Kentucky Airport facility, Holdings may be required to accrue an additional $8.2 million of expense related to the bonds associated with the initial financing of the facility.
Mesaba currently leases a facility at the Cincinnati/Northern Kentucky International Airport, but vacated the facility and ceased making the required lease payments on it in November 2005. Holdings unconditionally guaranteed full and prompt payment of the ground lease and the bonds associated with the initial financing of the facility. In accordance with this guaranty, Holdings has made the required bond and ground lease payments due since November 2005. In April 2006, in exchange for the bondholders forbearing acceleration of the bonds, Holdings delivered a letter of credit to the bondholders to assure payment of the bonds. As of December 31, 2005, Holdings recorded a $4.8 million liability with respect to the lease and guaranty, which assumed that the facility would remain vacant for the next two years, during which time Holdings would continue to make the bond and lease payments, and that thereafter Holdings would be able to sublease the facility at a 20% discount. If Holdings is unable to find an alternate sublessee for the facility, Holdings may be required to record an additional liability of up to $8.2 million.
Any court-approved reorganization by Mesaba could result in Holdings losing all or a portion of its equity in Mesaba .
In general, the absolute priority rule in the Bankruptcy Code requires that all of the debtor’s creditors must be paid in full; otherwise the equity holders in the debtor are not entitled to retain their equity interests, unless certain exceptions to the absolute priority rule are met. It will likely be some time before Mesaba proposes a reorganization plan. However, the outcome of any vote on Mesaba’s reorganization plan, as well as the terms and conditions of the plan itself, will determine whether Holdings risks losing some or all of its ownership in Mesaba due to the application of the absolute priority rule.
Mesaba may need exit financing to emerge from bankruptcy, and there is no assurance Mesaba can obtain exit financing.
The terms of any debtor-in-possession financing provided to Mesaba will likely require such financing to be repaid upon Mesaba’s exit from bankruptcy. Accordingly, Mesaba will need to provide for the repayment of any debtor-in-possession financing through a source of exit financing or through some other means. There is no assurance that such exit financing will be available to Mesaba upon its exit from bankruptcy or that Mesaba will have the means to repay any debtor-in-possession financing without exit financing.
Part of Mesaba’s bankruptcy strategy is to achieve labor cost savings, the threat of which could cause slowdowns or other labor unrest by Mesaba’s labor unions.
Since November 2005, Mesaba has been engaged in negotiations with all of its unions to address the need for contracts that are consistent with changing company and industry conditions. To that end, Mesaba filed a motion with the Bankruptcy Court requesting authorization to reject all of its CBAs. On January 31, 2006, the Bankruptcy Court approved the tentative agreement reached between Mesaba and the TWU. The Bankruptcy Court heard testimony from Mesaba and the remaining three unions for Mesaba’s pilots, mechanics and flight attendants in February and March 2006. On May 18, 2006, the Bankruptcy Court denied Mesaba’s motion to reject. Although the Bankruptcy Court agreed with Mesaba’s core business assumptions, the court ruled that Mesaba failed to satisfy certain technical elements required to authorize rejection of the labor contracts. The Bankruptcy Court stated that if Mesaba chooses to remedy the defects in its original motion, the court would hear a renewed motion in a prompt manner. On June 12, 2006, Mesaba filed a renewed motion for authority to reject its CBAs, and the Bankruptcy Court began hearing the motion on June 26, 2006.
While Mesaba remains committed to reaching negotiated agreements with these unions, there is no guarantee that Mesaba will be able to do so or that it will be able to do so in accordance with Mesaba’s planned timeframe for implementing labor cost savings. Furthermore, it is possible that members of these unions will participate in work slowdowns or other labor unrest to protest Mesaba’s requested new contract terms. In addition, Mesaba has experienced an increase in non-union employee turnover. If the high attrition rate continues, Mesaba could experience operating disruptions. Any labor unrest and any additional delay in achieving labor cost savings will result in a material adverse effect on Mesaba’s financial condition and results of operations.
If, in the process of performing its duties, Mesaba’s Creditors’ Committee believes any claims exist regarding Mesaba’s relationship with Holdings, the Creditors’ Committee could assert such claims against Holdings.
Certain provisions of the Bankruptcy Code allow a debtor-in-possession to recover transfers of cash or other property that were made prior to the debtor’s bankruptcy filing. As a result, one of the traditional duties of an official committee of unsecured creditors appointed in a bankruptcy case is to examine transactions between a debtor-in-possession and its affiliates. In Mesaba’s bankruptcy case, the Creditors’ Committee has requested the right to review various documents concerning transactions between Holdings and Mesaba, including the payment of dividends from Mesaba to Holdings, and to take depositions in order to understand these transactions. Holdings believes all dividends paid by Mesaba were appropriate and in compliance with the requirements of the Minnesota Business Corporation Act. However, in order to address any questions about the relationship between Holdings and Mesaba, Holdings has entered into an agreed protective order with the Creditors’ Committee to voluntarily provide documents explaining the relationship between Holdings and Mesaba and to provide witness testimony concerning the documents provided. The Creditors’ Committee has not completed its review of the transactions between Holdings and Mesaba and, consequently, the Creditors’ Committee has not yet advised Holdings of any specific claims arising from its review.
Mesaba has experienced a high attrition rate in its accounting, finance and information technology departments, and if Mesaba is unable to replace individuals in these areas, Mesaba’s internal control over financial reporting may be adversely affected.
Since Mesaba filed for bankruptcy protection on October 13, 2005, Mesaba has experienced resignations of key personnel in the accounting and SEC reporting functions as well as the information technology area, which provides technical support to the finance department. Additionally, Mesaba has begun to implement company-wide staff reductions and a reorganization of its operations. Mesaba has added contract workers and consultants as temporary replacements of the key personnel who have resigned, and Mesaba expects that it will be able to continue to engage consultants and other temporary replacements for these positions in the near future. However, if Mesaba is not able to successfully attract qualified permanent employees to fill these key positions, Mesaba’s internal control over financial reporting could be adversely affected. Risks Related to Mesaba’s Relationship with Northwest
Mesaba is dependent on its relationship with Northwest as its major customer, and the loss of this relationship would substantially harm the Company’s financial results.
During fiscal 2006, Northwest accounted for 94.5% of Mesaba’s operating revenues. Additionally, Mesaba consistently carries a receivable due from Northwest between $12 million to $16 million that is not collateralized. Due to Northwest’s missed payments prior to and following its bankruptcy filing, Mesaba recorded a reserve of the receivable due from Northwest, net of certain offsetting liabilities, through September 13, 2005, the date of Northwest’s bankruptcy filing. Mesaba’s future success will depend upon Northwest’s ability to successfully restructure through bankruptcy. Further, Northwest’s bankruptcy has effectively placed Mesaba’s contracts with Northwest at risk, as Northwest has the option to assume or reject or renegotiate each of such contracts in connection with its bankruptcy proceedings.
Mesaba is currently continuing to operate flights for Northwest, but the exact nature of Mesaba’s future relationship with Northwest may not be known until such time as Northwest adopts its bankruptcy reorganization plan. As of June 8, 2006, Northwest had removed 13 Saabs and 19 Avros from Mesaba’s fleet. In January 2006, Northwest advised Mesaba that the remaining Avros operated by Mesaba will be removed by the end of December 2006. Northwest also advised Mesaba that it will remove one of the CRJs that Mesaba currently operates and place the CRJ with Northwest’s newly formed subsidiary, Compass. Finally, as part of its reorganization, Northwest has requested bids from regional airlines for the operation of up to 126 CRJs, 124 of which are currently operated by Pinnacle, and two of which are currently operated by Mesaba. If Mesaba is not awarded some or all of the CRJ business, Northwest will remove the remaining CRJ from Mesaba’s fleet. If Northwest rejects the ASA or negotiates a new ASA (and such renegotiation does not include a waiver by Mesaba of its claims against Northwest), the prepetition amounts owed to Mesaba by Northwest would remain an unsecured claim, and Mesaba would likely receive only a small percentage of the amounts owed to it, and even then would only receive such amounts after a plan of reorganization is approved by Northwest’s bankruptcy court.
Northwest has not guaranteed that it will grow Mesaba’s regional fleet, and Northwest could opt to operate new regional aircraft with its own new subsidiary or utilize other regional airlines.
The ASA does not prohibit Northwest from contracting with other regional airlines to provide the same services that Mesaba currently provides. Northwest currently has an airline services agreement with Pinnacle, and Pinnacle serves many of the same cities as Mesaba. Northwest has issued a request for proposal for the operation of up to 126 CRJs (the total number of CRJs currently operated by Mesaba and Pinnacle combined), and Northwest has also formed a new subsidiary, Compass, that could ultimately operate regional aircraft. Accordingly, Northwest could choose to expand its agreement with Pinnacle in competition with Mesaba or to contract with other regional airlines or to replace one or both of its current regional airline partners with Compass.
Risks Related to the Company’s Business and Operation
Mesaba’s and Big Sky’s success is dependent on their ability to obtain all necessary aircraft, engines, parts and related maintenance and support from various aircraft manufacturers and vendors.
Mesaba and Big Sky are dependent on various aircraft manufacturers and other vendors to provide sufficient parts and related maintenance and support services on a timely basis. Additionally, Mesaba and Big Sky rely on various engine manufacturers for parts, repair and overhaul services and other types of support services. Mesaba’s bankruptcy and nonpayment for prepetition goods and services has adversely affected its relationship with certain vendors. The failure of aircraft or engine manufacturers and other vendors to provide parts or related services on a timely, cost-effective basis could materially and adversely affect Mesaba’s or Big Sky’s business, financial condition and results of operations.
Because Mesaba is unable to pass along increased operating costs, Mesaba’s earnings will be negatively affected as its fleet continues to age.
As Mesaba’s fleet of aircraft age, the cost of maintaining the aircraft will likely increase. Because many aircraft components are required to be replaced after a specified time, numbers of flight hours or take-off and landing cycles, and because new aviation technology may require certain parts to be retrofitted, the cost to maintain aging aircraft will generally exceed the cost to maintain newer aircraft. Any material increase in such costs will have a material adverse effect on Mesaba’s business, financial condition and results of operations.
If Mesaba loses certain of its ground handling business, Mesaba’s results of operations could be materially affected.
Mesaba performs various ground handling services for Northwest, Pinnacle and other airlines at Minneapolis, Detroit and certain other airport locations. The ground handling business is highly competitive, and airlines are constantly reviewing their cost structures to locate the most cost-effective ground handling providers. Mesaba receives the majority of its ground handling revenue from Northwest and Pinnacle, and Mesaba does not have any long-term agreements with either airline. If Northwest or Pinnacle terminates Mesaba’s ground handling services, Mesaba’s financial results would be materially affected, both through a loss of revenue and increased transition expenses.
Mesaba and Big Sky could incur significant costs if they experience difficulty finding, training and retaining employees.
Mesaba’s and Big Sky’s businesses are labor-intensive and require large numbers of pilots, flight attendants, maintenance technicians and other personnel. The airline industry has from time to time experienced a shortage of qualified personnel, specifically pilots and maintenance technicians. In addition, as is common with most airline competitors, Mesaba and Big Sky have faced turnover of their employees. For example, Mesaba’s and Big Sky’s pilots and maintenance technicians, as well as Mesaba’s flight attendants, occasionally leave to work for larger airlines which generally offer higher salaries and more extensive benefit programs than regional airlines are financially able to offer. In the event of a significant increase in the turnover of employees in the above-mentioned positions, Mesaba and Big Sky would incur significantly higher training costs than would otherwise be necessary. Mesaba and Big Sky cannot provide assurance that they will be able to recruit, train and retain the qualified employees they require to carry out their business plans.
Mesaba and Big Sky could be adversely affected by the highly competitive nature of the airline industry.
The airline industry is highly competitive, and Northwest competes not only with other regional carriers, but also with low-cost airlines and major airlines on many of its routes, including the routes that Mesaba flies. Some of these competitors are significantly larger and possess greater resources than Northwest. Moreover, any new entry in the markets Mesaba serves could lessen the economic benefits Northwest derives from servicing these markets. Finally, Big Sky also competes with low-cost and regional carriers on its routes, and it faces the same competitive challenges described above. Holdings’ ability to diversify within the airline industry may be limited by the terms of its side letter agreement with Mesaba’s pilots’ union.
In January 2004, Holdings entered into a letter agreement with ALPA, Mesaba’s pilots’ union, that may limit the types of aircraft Big Sky may fly and may place additional requirements on Holdings if it forms or acquires any other airline subsidiary. These possible limitations were included in Mesaba’s negotiations with its pilots in Mesaba’s bankruptcy proceedings, and the Bankruptcy Court ruled that Mesaba cannot reject the letter agreement. In light of this ruling, Holdings is currently assessing its alternatives with respect to the letter agreement.
Mesaba’s and Big Sky’s compliance with various regulations governing the airline industry can be costly, and Mesaba and Big Sky could be harmed if they fail to comply with such regulations.
Airlines are subject to extensive regulatory and legal requirements that involve significant compliance costs that can result in increased costs for passengers and the airline. The FAA, DOT and Transportation Security Administration periodically propose additional laws, regulations, taxes and airport rates and charges. Such measures could have the effect of raising ticket prices, reducing revenue, increasing costs or reducing demand for air travel. Mesaba and Big Sky expect to continue incurring expenses to comply with existing and future regulations. Moreover, if either Mesaba or Big Sky fails to comply with applicable regulations, they may be subject to sanctions, including the following:
• warning letters;
• fines;
• injunctions;
• orders relating to grounding of aircraft, inspection of aircraft, installation of new safety-related items and removal and replacement of certain aircraft parts; or
• criminal prosecutions.
Future terrorists attacks, other world events, general economic conditions and other factors beyond the Company’s control could substantially harm the Company.
The terrorist attacks of September 11, 2001 and the prolonged unrest in the Middle East materially affected and continue to affect the airline industry. Concerns about further terrorist attacks have had a negative impact on air travel demand. In addition, security procedures introduced at airports since the attacks have increased the inconvenience of air travel, both in reality and in customer perception, leading to further reduction in demand. Finally, the continued rise in jet fuel prices has had an adverse economic effect on all airlines, including Northwest and Big Sky. Additional terrorist attacks, the fear of such attacks, continued conflict in Iraq, Afghanistan or other countries or continued increases in fuel prices could further affect the airline industry and could cause general instability in financial markets.
Because a substantial portion of air travel, including business travel, is discretionary, the industry tends to experience adverse financial results during general economic downturns. Soft economic conditions continue to put pressure on the profitability of the industry. Any general decline in passenger traffic may harm the Company’s business.
Mesaba’s and Big Sky’s operations are also subject to delays caused by factors beyond their control, including air traffic congestion at airports, adverse weather conditions and increased security measures. Such delays frustrate passengers, reduce aircraft utilization and increase costs, all of which may affect profitability and harm the Company’s financial condition and results of operations. Mesaba and Big Sky are increasingly dependent upon technology in their operations, and any failure of such technology could adversely affect them.
Mesaba and Big Sky have made substantial investments in technology to manage their operations. In particular, the systems operations control centers, which oversee daily flight operations, are dependent on a number of technology systems to operate effectively. These technology systems may be vulnerable to various sources of interruption due to events beyond Mesaba’s or Big Sky’s control, including natural disasters, terrorist attacks, computer viruses and hackers. In addition, large-scale interruption in technology on which Mesaba and Big Sky depend, such as power, telecommunications or the Internet, could substantially disrupt their operations.
Any airline accident in which Mesaba or Big Sky is involved could subject Mesaba or Big Sky to substantial liability and seriously harm the Company’s financial condition and results of operations.
An accident involving Mesaba or Big Sky aircraft could result in injuries and loss of life and, therefore, result in significant claims from injured persons and surviving relatives. An accident could also result in substantial property damage, loss of aircraft from service and adverse publicity for the affected airline. The DOT requires airlines to carry liability insurance. Although Mesaba and Big Sky believe their liability insurance is in amounts and of the type generally consistent with industry practice, substantial claims resulting from an accident in excess of insurance coverage would harm the Company’s business and financial results. Any resulting claims would also be costly to defend and could harm Mesaba’s or Big Sky’s reputation. Moreover, any aircraft accident, even if fully insured or not directly involving Mesaba or Big Sky, could cause a public perception that flying is less safe or reliable than other transportation alternatives, which could harm the Company’s financial condition and results of operations.
Risks Related to the Company’s Stock
Together, certain of the Company’s shareholders own or have the right to acquire a significant portion of the Company’s stock and could ultimately control decisions regarding the Company.
Northwest owns 27.5% of the Company’s common stock. Pursuant to its Warrant, Northwest also has the right to purchase an aggregate of 4,112,500 shares of the Company’s common stock, subject to certain vesting restrictions related to the future delivery by Northwest of CRJ aircraft. It is possible that if Mesaba is awarded additional CRJ aircraft by Northwest, Mesaba and Northwest may negotiate a new airline services agreement, and the Company and Northwest may then also renegotiate the terms of any warrant that may be issued. Additionally, several other shareholders also own significant blocks of the Company’s common stock. Because the parties described above currently own a large portion of the Company’s stock, they may be able to determine or significantly influence the outcome of corporate actions requiring shareholder approval, including decisions as to the Company’s direction and policies; future issuances of securities, incurrence of debt, amendments to the Company’s articles of incorporation and bylaws, payment of dividends on the Company’s common stock; and acquisitions, sales of the Company’s assets, mergers or similar transactions, including transactions involving a change of control. As a result, some investors may be unwilling to purchase the Company’s common stock. In addition, if the demand for the Company’s common stock is reduced because of these shareholders’ control of the Company, the price of the Company’s common stock could be materially depressed.
Future sales of the Company’s common stock by its shareholders could depress the price of the Company’s stock.
Sales of a large number of shares of the Company’s common stock or the availability of a large number of shares for sale could adversely affect the market price of the Company’s common stock. As of March 31, 2006, the Company had 20,591,840 shares of common stock outstanding. Several of the Company’s shareholders own substantial blocks of the Company’s common stock. Additionally, along with the shares of stock it currently owns, Northwest could own an additional large block of the Company’s common stock upon exercise of its Warrant. In connection with the ASA, the Company entered into a registration rights agreement to register the shares of stock owned by Northwest (including those shares underlying the Warrant). Prior to entering the ASA, Northwest had pledged certain of these shares to Boeing Capital Corporation (“Boeing”), and Boeing is also a party to the registration rights agreement. The registration statement has not been filed, and will likely not be filed until a final resolution is reached with respect to the ASA, unless Boeing obtains relief from the automatic stay and is allowed to foreclose on Northwest’s stock pledge and subsequently demand registration. Nevertheless, following any registration, future sales of those shares, or future sales of other large blocks of the Company’s common stock that are already registered, could substantially depress the Company’s stock price.
Any future exercise of the Warrant held by Northwest could substantially dilute the Company’s common stock.
As of March 31, 2006, Northwest held a Warrant exercisable for an aggregate of 4,112,500 shares of the Company’s common stock at an exercise price of $8.74 per share. To date, the Warrant has not vested, and it will not begin to vest until Northwest delivers a total of 15 CRJs to Mesaba. In such event, the Company and Northwest may also renegotiate the terms of the Warrant. If and when the Warrant does vest, holders of the Company’s common stock could experience substantial ownership dilution if Northwest elects to exercise the Warrant.
The Company’s stock price may continue to be volatile.
In the past two fiscal years, the market price of the Company’s common stock has ranged from a low of $4.50 per share to a high of $10.23 per share. Because the Company’s stock is thinly traded, its market price is sensitive and may continue to experience substantial fluctuations due to a variety of factors, including the following:
• failure of the Company’s operating results to meet analysts’ or investors’ expectations in any quarter;
• securities analysts’ estimates;
• material announcements by the Company, Northwest or the Company’s, Mesaba’s or Big Sky’s competitors;
• public sales of a substantial number of shares of the Company’s common stock;
• increased short sales due to the uncertainty surrounding Mesaba’s bankruptcy, as well as any purchase to cover short positions;
• regulatory actions; or
• general market conditions.
Anti-takeover provisions of the Company’s articles of incorporation and bylaws and of Minnesota law could discourage, delay or prevent a change in control.
The Company’s articles of incorporation and bylaws, along with Minnesota law, could discourage, delay or prevent persons from acquiring or attempting to acquire the Company. The Company’s articles of incorporation authorize the board of directors, without action by the Company’s shareholders, to designate and issue preferred stock in one or more series, with such rights, preferences and privileges as the board of directors shall determine. The Company’s articles of incorporation and bylaws also mandate a classified board of directors, which makes changing control of the board more difficult. The Company’s bylaws grant the board of directors the authority to adopt, amend or repeal all or any of such bylaws, subject to the power of the shareholders to change or repeal such bylaws. The Company’s bylaws also limit who may call meetings of the Company’s shareholders.
As a public corporation, the Company is prohibited by the Minnesota Business Corporation Act, except under certain specified circumstances, from engaging in any merger, significant sale of stock or assets or business combination with any shareholder or group of shareholders who own at least 10% of the Company’s common stock.
Item 1B. UNRESOLVED STAFF COMMENTS
None.
