Bankruptcy

Frontier and First Data Corp.

By Adam Levitin

Felix Salmon has a great piece in CondeNast portfolio.com about the role of First Data Corporation in precipitating Frontier Airline's bankruptcy.  It's unusual to find a story that connects consumer credit card rights with a corporate bankruptcy, so I'll summarize the interaction beneath the break. 

FDC is Frontier's acquirer bank (technically FDC is not a bank, but through various partnerships and subcontracts it functions like one for our purposes).  This means that all credit card payments for Frontier tickets go through FDC.  And, because just about all airline tix are purchased via credit card, it means that FDC sits in a position commanding Frontier's cash flow. 

So when FDC got worried about Frontier's financial outlook, it demanded a higher holdback--essentially a compensating balance--an amount of cashflow that would sit in Frontier's account at FD--to protect FDC in the event Frontier went out of business.  Here's why FDC was concerned: people buy airline tix weeks before they fly.  If Frontier went out of business, then consumers who had prepurchased tickets would be able to look to their credit card issuer for a refund.  Under credit card network rules, the issuer would be able to look the acquirer bank for a refund, so the acquirer bank would be left holding the general unsecured bankruptcy claim, not a happy position. 

A holdback that would generate a setoff right, however, would move FDC out of the great unwashed of the general unsecured into a quasi-secured position, but only to the extent that the holdback right was created more than 90 days before the bankruptcy filing.  11 USC 553(a)(3).  Of course, Frontier shows the danger of imposing such a holdback--it limits the debtor's cash flow and can precipitate a bankruptcy filing.  The more aggressive a creditor is in protecting itself, the more likely it is to push a debtor into bankruptcy. 

Full post as published by Credit Slips on April 28, 2008 (boomark / email).