United Airlines (UAL -1.42%) executives have prided themselves on taking a conservative approach to capacity decisions during the COVID-19 pandemic. For much of 2020, this seemed to be paying off in the form of lower cash burn relative to peers, especially American Airlines.
However, even United has no answer for the recent surge in COVID-19 cases -- and corresponding drop in travel demand. Last week, it became the latest airline to slash its forecast for the fourth quarter, projecting that it will burn significantly more cash than management previously anticipated.
Cash burn accelerates again
Two months ago, United Airlines reported average daily cash burn of $25 million for the third quarter, including average debt principal and severance payments of $4 million per day. That marked an improvement from cash burn of $40 million per day in the second quarter.
Entering Q4, management expected daily cash burn to average $25 million to $30 million for the period, including debt principal and severance payments averaging $10 million per day. However, the COVID-19 pandemic has taken a turn for the worse since October. Last month, United was one of several airlines to report a slowdown in air travel demand and bookings. However, at the time, the company stuck by its initial cash burn forecast for the quarter.
In an investor update issued last Friday, United acknowledged that booking trends had continued to deteriorate. As a result, the company now expects revenue to plunge 70% year over year this quarter, compared to its prior guidance for a 67% revenue decline.
More importantly, United now expects average daily cash burn to rise to between $34 million and $36 million this quarter. That still includes $10 million per day for debt principal and severance payments. The increase in projected cash burn was driven in part by a shift in the timing of certain cash flows -- which shouldn't be a concern for investors -- but also by the drop in booking activity.
Digging a deeper hole
Prior to the recent guidance update, United Airlines had expected to end the year with nearly $19 billion of liquidity. Factoring in the new forecast for higher cash burn, the company's year-end liquidity might be closer to $18 billion. Liquidity could increase further if United sells more stock under its ongoing at-the-market equity offering. Thus, there's no real risk that United would run out of cash. Furthermore, in the recent investor update, management said that it expects demand to recover meaningfully by next summer, thanks to the global rollout of COVID-19 vaccines.
The problem for investors is simple. Every additional dollar of cash that United Airlines burns this quarter -- and in early 2021 -- will add to its debt burden, making a future turnaround a little bit tougher to accomplish. As of Sept. 30, United had $14.6 billion of debt set to mature between 2021 and 2024. It will probably be able to refinance some of those borrowings. That said, a lot of this debt is currently secured by aircraft and parts that depreciate over time. United won't be able to borrow as much against these assets in the future.
Meanwhile, United Airlines has one of the oldest fleets in the U.S. airline industry. Its mainline aircraft are a little over 16 years old, on average. The full-service airline had $24.3 billion of capital commitments as of Sept. 30: mostly for new airplanes to replace its oldest jets. That amount covers only a portion of United's aircraft needs for the next 10 years.
United Airlines already has over $19 billion of debt and lease liabilities, net of cash and investments. Unless the company sells more stock, further diluting shareholders, the balance sheet will continue to deteriorate in the near term due to its high cash burn. Looking ahead, United's heavy reliance on business travel and long-haul international travel makes it unlikely that the airline will be able to fix its balance sheet quickly.
High capital commitments add to the long-term balance-sheet pressure. Depending on the pace of United's earnings recovery, the airline could struggle to manage its heavy debt maturities and capital spending needs. While United Airlines stock is down 45% year to date, the stock is no bargain. Investors should look elsewhere for opportunities.