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Hidden Cost to a United Airlines Deal

As Continental Airlines and UAL war over the possible price of any link-up between the two, investors may also want to consider an obscure liability that UAL has to the pension benefit guaranty corporation which, if it merges with Continental, would appear to be triggered.

United Airlines
Jacquelyn Martin
United Airlines

According to federal filings, the liability works like this: If UAL’s EBITDAR rises above $3.5 billion on trailing 12-month basis, the airline is obligated to pay the Pension Benefit Guaranty Corporation, PBGC, $500 million.

The $500 million is not a lump sum payment, but will come in the form of notes issued by UAL that will have a duration of 15 years and pay 8 percent interest per annum.

The Notes were additional consideration for the PBGC in return for its assumption of UAL's pension liabilities in its Chapter 11 bankruptcy case.

While it seems impossible for United to reach $3.5 billion in EBITDAR on its own, a merger with Continental will create post-closing EBITDA of about $4B -- and cause the $500M obligation to spring.

And in a clear sign of bad lawyering, there is no carve-out for UAL buying another carrier, even though the payment was supposed to be based on an unexpected increase in UAL’s performance and not the result of a merger (the deal being contemplated, while a merger of equals, will be effectuated with UAL as the buyer).

An issuance trigger event occurs when UAL's EBITDAR exceeds $3.5 billion over the prior 12 months ending June 30 or December 31 of any applicable fiscal year, beginning with FY ended December 31, 2009 and ending with FY ending December 31, 2017.

In any year the trigger is sprung, UAL is obligated to issue two tranches of $62.5 million of the 8 percent notes. That process continues for four years, until UAL has issued a total of $500 million in notes to the PBGC.

Each issued tranche will mature 15 years from its respective issuance date, with interest payable in cash in semi-annual installments, and will be callable, at UAL's option, at any time at par, plus accrued and unpaid interest, according to filings.

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Questions? Comments? Write to faberreport@cnbc.com.

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