Form 10-K
 
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

x   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2006
 
or
 
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

Commission file number 1-5424
 
DELTA AIR LINES, INC.
(Exact name of registrant as specified in its charter)

Delaware
    
58-0218548
(State or other jurisdiction of incorporation or organization)
    
(I.R.S. Employer Identification No.)

Post Office Box 20706
Atlanta, Georgia
   
 
30320-6001
(Address of principal executive offices)
    
(Zip Code)

Registrant’s telephone number, including area code: (404) 715-2600

Securities registered pursuant to Section 12(b) of the Act:

 
Title of each class
  
Name of each exchange on which
registered
None
    

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, par value $0.01 per share
8 1/8% Notes Due July 1, 2039

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes o    No þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section  15(d) of the Exchange Act.
Yes o    No þ

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes þ    No o
 


 


Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.           þ 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and non-accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer      o
Accelerated filer      x
Non-accelerated filer       o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o    No þ

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant as of June 30, 2006 was approximately $148 million.

On January 31, 2007, there were outstanding 197,335,938 shares of the registrant’s common stock.

This document is also available on our website at http://investor.delta.com/edgar.cfm.

Documents Incorporated By Reference

Part III of this Form 10-K will be filed with the Securities and Exchange Commission as an amendment to this Form 10-K in accordance with General Instruction G(3).



TABLE OF CONTENTS

   
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ii

 
Forward-Looking Information
 
Statements in this Form 10-K (or otherwise made by us or on our behalf) which are not historical facts, including statements about our estimates, expectations, beliefs, intentions, projections or strategies for the future, may be “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from historical experience or our present expectations. For examples of such risks and uncertainties, please see the cautionary statements contained in “Risk Factors Relating to Delta” and “Risk Factors Relating to the Airline Industry” in “Item 1A. Risk Factors” of this Form 10-K. We undertake no obligation to publicly update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this report.
 
Other Information
 
On September 14, 2005 (the “Petition Date”), we and substantially all of our subsidiaries filed voluntary petitions for reorganization under Chapter 11 of the United States Bankruptcy Code (the “Bankruptcy Code”) in the United States Bankruptcy Court for the Southern District of New York (the “Bankruptcy Court”). On December 19, 2006, we filed a Plan of Reorganization (the “Plan”), which, after amendment, is being submitted to a vote of creditors and is subject to confirmation by the Bankruptcy Court. Under the Plan, current holders of our equity securities would not receive any distributions, and the equity securities would be cancelled upon the effective date of the Plan. Accordingly, we urge that caution be exercised with respect to existing and future investments in our equity securities and any of our liabilities or other securities. Additional information about our Chapter 11 filing is available on the Internet at www.delta.com/restructure. Bankruptcy Court filings, claims information and our proposed Plan are available at www.deltadocket.com. Information contained on these websites is not part of, and is not incorporated by reference in, this Form 10-K.
 
Unless otherwise indicated, the terms “Delta,” the “Company,” “we,” “us,” and “our” refer to Delta Air Lines, Inc. and its subsidiaries.
 
 
PART I
 
ITEM 1. BUSINESS
 
General Description
 
We are a major air carrier that provides scheduled air transportation for passengers and cargo throughout the United States and around the world. We offer customers service to more destinations than any other global airline, with Delta and Delta Connection carrier service to 308 destinations in 52 countries. With more than 60 new international routes added since 2005, we are increasing our international service significantly. We are a leader across the Atlantic with flights to 31 trans-Atlantic destinations. We also offer more than 600 weekly flights to 58 destinations in Latin America and the Caribbean. We are a founding member of the SkyTeam international alliance, a global airline alliance that provides customers with extensive worldwide destinations, flights and services. Including our SkyTeam and worldwide codeshare partners, we offer flights to 462 worldwide destinations in 99 countries.
 
For the years ended December 31, 2006, 2005 and 2004, passenger revenues accounted for 91%, 90% and 91% of our consolidated operating revenues, respectively, and cargo revenues and other sources accounted for 9%, 10% and 9% of our consolidated operating revenues, respectively. In 2006, our operations in North America, the Atlantic, Latin America and the Pacific accounted for 75%, 18%, 6% and 1%, respectively, of our consolidated operating revenues. In 2005, our operations in North America, the Atlantic, Latin America and the Pacific accounted for 80%, 14%, 5% and 1%, respectively, of our consolidated operating revenues. In 2004, our operations in North America, the Atlantic, Latin America and the Pacific accounted for 81%, 14%, 4% and 1%, respectively, of our consolidated operating revenues.
 
We are incorporated under the laws of the State of Delaware. Our principal executive offices are located at Hartsfield-Jackson Atlanta International Airport in Atlanta, Georgia (the “Atlanta Airport”). Our telephone number is (404) 715-2600, and our Internet address is www.delta.com. Information contained on this website is not part of, and is not incorporated by reference in, this Form 10-K.
 

1

 
See “Risk Factors Relating to Delta” and “Risk Factors Relating to the Airline Industry” in Item 1A and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 for additional discussion of trends and factors affecting us and our industry.
 
Airline Operations
 
Our route network is centered around the hub system we operate at airports in Atlanta, Cincinnati, New York (John F. Kennedy International Airport (“JFK”)) and Salt Lake City. Each of these hub operations includes Delta flights that gather and distribute traffic from markets in the geographic region surrounding the hub to domestic and international cities and to other Delta hubs. Our hub system also provides passengers with access to our principal international gateways in Atlanta and JFK.
 
As briefly discussed below, other key characteristics of our route network include our alliances with foreign airlines; the Delta Connection program; the Delta Shuttle; and our domestic marketing alliances, including with Continental Airlines, Inc. (“Continental”) and Northwest Airlines, Inc. (“Northwest”).
 
International Alliances
 
We have formed bilateral and multilateral marketing alliances with foreign airlines to improve our access to international markets. These arrangements can include codesharing, reciprocal frequent flyer program benefits, shared or reciprocal access to passenger lounges, joint promotions, common use of airport gates and ticket counters, ticket office co-location and other marketing agreements. These alliances often present opportunities in other areas, such as airport ground handling arrangements and aircraft maintenance insourcing.
 
Our international codesharing agreements enable us to market and sell seats to an expanded number of international destinations. Under international codesharing arrangements, we and a foreign carrier each publish our respective airline designator codes on a single flight operation, thereby allowing us and the foreign carrier to offer joint service with one aircraft, rather than operating separate services with two aircraft. These arrangements typically allow us to sell seats on a foreign carrier’s aircraft that are marketed under our “DL” designator code and permit the foreign airline to sell seats on our aircraft that are marketed under the foreign carrier’s two-letter designator code. We have international codeshare arrangements in effect with Aeromexico, Air France, Air Jamaica (currently expected to terminate on April 30, 2007), Alitalia, Avianca, China Airlines, China Southern, CSA Czech Airlines, El Al Israel Airlines, KLM Royal Dutch Airlines, Korean Air and Royal Air Maroc (and some affiliated carriers operating in conjunction with these airlines).
 
In addition to our agreements with individual foreign airlines, we are a member of the SkyTeam international airline alliance. The other full members of SkyTeam are Aeroflot, Aeromexico, Air France, Alitalia, Continental, CSA Czech Airlines, KLM Royal Dutch Airlines, Korean Air and Northwest. One goal of SkyTeam is to link the route networks of the member airlines, providing opportunities for increased connecting traffic while offering enhanced customer service through mutual codesharing arrangements, reciprocal frequent flyer and lounge programs and coordinated cargo operations.
 
In 2002, we, Air France, Alitalia, CSA Czech Airlines and Korean Air received limited antitrust immunity from the U.S. Department of Transportation (the “DOT”) that enables us and our immunized partners to offer a more integrated route network and develop common sales, marketing and discount programs for customers.
 
Delta Connection Program
 
The Delta Connection program is our regional carrier service, which feeds traffic to our route system through contracts with regional air carriers that operate flights serving passengers primarily in small- and medium-sized cities. The program enables us to increase the number of flights we have in certain locations, to better match capacity with demand and to preserve our presence in smaller markets. The Delta Connection program operates the largest number of regional jets in the United States.
 

2

 
Through the Delta Connection program, we have contractual arrangements with seven regional carriers to operate regional jet and, in certain cases, turbo-prop aircraft using our “DL” designator code. Our wholly-owned subsidiary, Comair, operates all of its flights under our code. Atlantic Southeast Airlines, Inc., which we sold to SkyWest, Inc. (“SkyWest”) in September 2005, continues to operate all of its flights under our code. In addition, we have agreements with the following regional carriers that operate some of their flights using our code: SkyWest Airlines, Inc., a subsidiary of SkyWest; Chautauqua Airlines, Inc., a subsidiary of Republic Airways Holdings, Inc. (“Republic Holdings”); Shuttle America Corporation, a subsidiary of Republic Holdings; Freedom Airlines, Inc., a subsidiary of Mesa Air Group, Inc.; and American Eagle Airlines, Inc.
 
We generally pay the regional carriers, including Comair, amounts defined in their respective contract carrier agreements, which are based on a determination of the carriers’ respective cost of operating those flights and other factors intended to approximate market rates for those services. These agreements are long-term agreements, usually with initial terms of at least ten years, that grant us the option to extend the initial term and provide us the right to terminate the agreement for convenience at certain future dates. Our arrangement with Eagle, which is limited to certain flights operated to and from the Los Angeles International Airport, as well as a portion of the flights operated by SkyWest Airlines, are structured as revenue proration agreements. These proration agreements establish a fixed dollar or percentage division of revenues for tickets sold to passengers traveling on connecting flight itineraries. For additional information regarding our contract carrier agreements, see Note 8 of the Notes to the Consolidated Financial Statements.
 
Delta Shuttle
 
We operate a high frequency service targeted to northeast business travelers known as the Delta Shuttle. The Delta Shuttle provides nonstop, hourly service on business days between New York - LaGuardia Airport (“LaGuardia”) and both Boston - Logan International Airport and Washington, D.C. - Ronald Reagan National Airport (“Reagan”).
 
Domestic Alliances
 
We have entered into marketing alliances with (1) Continental and Northwest (including regional carriers affiliated with each) and (2) Alaska Airlines and Horizon Air Industries, both of which include mutual codesharing and reciprocal frequent flyer and airport lounge access arrangements. These marketing relationships are designed to permit the carriers to retain their separate identities and route networks while increasing the number of domestic and international connecting passengers using the carriers’ route networks.
 
Fuel
 
Our results of operations are significantly impacted by changes in the price and availability of aircraft fuel. The following table shows our aircraft fuel consumption and costs for 2004 through 2006.

 
 
Gallons
 
 
 
Average
 
Percentage of
 
 
Consumed
 
Cost (1)
 
Price Per
 
Total Operating
Year
 
(Millions)
 
(Millions)
 
Gallon (1)
 
Expenses
 
 
 
 
 
 
 
 
 
2006
 
2,111
 
$4,319
 
$2.04
 
 25%
2005
 
2,492
 
   4,271
 
  1.71
 
23%
2004
 
2,527
 
   2,924
 
  1.16
 
16%
 
(1)
Net of fuel hedge (losses) gains under our fuel hedging program of ($108) million and $105 million for 2006 and 2004, respectively. We had no fuel hedge contracts in 2005.
 
Our aircraft fuel purchase contracts do not provide material protection against price increases or assure the availability of our fuel supplies. We purchase most of our aircraft fuel under contracts that establish the price based on various market indices. We also purchase aircraft fuel on the spot market, from off-shore sources and under contracts that permit the refiners to set the price.
 

3

 
We periodically use derivative instruments designated as cash flow hedges, which are comprised of heating oil and jet fuel swap and collar contracts, to manage our exposure to changes in fuel prices. Information regarding our fuel hedging program is set forth under “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Market Risks Associated with Financial Instruments — Aircraft Fuel Price Risk” in Item 7 and in Note 4 of the Notes to the Consolidated Financial Statements.
 
We are currently able to obtain adequate supplies of aircraft fuel, but it is impossible to predict the future availability or price of aircraft fuel. Weather-related events, natural disasters, political disruptions or wars involving oil-producing countries, changes in government policy concerning aircraft fuel production, transportation or marketing, changes in aircraft fuel production capacity, environmental concerns, and other unpredictable events may result in fuel supply shortages and fuel price increases in the future.
 
Competition
 
We face significant competition with respect to routes, services and fares. Our domestic routes are subject to competition from both new and existing carriers, some of which have lower costs than we do and provide service at low fares to destinations served by us. In particular, we face significant competition at our hub airports in Atlanta and JFK from other carriers. In addition, our operations at our hub airports also compete with operations at the hubs of other airlines that are located in close proximity to our hubs. We also face increasing competition in smaller to medium-sized markets from rapidly expanding regional jet operators. Our ability to compete effectively depends, in significant part, on our ability to maintain a cost structure that is competitive with other carriers.
 
In addition, we compete with foreign carriers, both on interior U.S. routes, due to marketing and codesharing arrangements, and in international markets. International marketing alliances formed by domestic and foreign carriers, including the Star Alliance (among United Airlines, Lufthansa German Airlines and others) and the oneworld Alliance (among American Airlines, British Airways and others) have significantly increased competition in international markets. Through marketing and codesharing arrangements with U.S. carriers, foreign carriers have obtained access to interior U.S. passenger traffic. Similarly, U.S. carriers have increased their ability to sell international transportation, such as transatlantic services to and beyond European cities, through alliances with international carriers.
 
Frequent Flyer Program
 
We have a frequent flyer program, the SkyMiles® program, which offers incentives to customers to increase travel on Delta. This program allows program members to earn mileage for travel awards by flying on Delta, Delta Connection carriers and participating airlines. Mileage credit may also be earned by using certain services offered by program participants, such as credit card companies, hotels, car rental agencies, telecommunication services and internet services. In addition, individuals and companies may purchase mileage credits. We reserve the right to terminate the program with six months’ advance notice, and to change the program’s terms and conditions at any time without notice.
 
Mileage credits can be redeemed for free or upgraded air travel on Delta and participating airlines, for membership in our Crown Room Club and for other program participant awards. Travel awards are subject to certain transfer restrictions and capacity-controlled seating. In some cases, blackout dates may apply. Program accounts with no activity for 12 consecutive months after enrollment are deleted. Miles will not expire so long as, at least once every two years, the participant (1) takes a qualifying flight on Delta or a Delta Connection carrier, (2) earns miles through one of our program participants, (3) buys miles from Delta or (4) redeems miles for any program award.
 
Regulatory Matters
 
The DOT and the Federal Aviation Administration (“FAA”) exercise regulatory authority over air transportation in the United States. The DOT has authority to issue certificates of public convenience and necessity required for airlines to provide domestic air transportation. An air carrier that the DOT finds fit to operate is given unrestricted authority to operate domestic air transportation (including the carriage of passengers and cargo). Except for constraints imposed by regulations regarding “Essential Air Services,” which are applicable to certain small communities, airlines may terminate service to a city without restriction.
 

4

 
The DOT has jurisdiction over certain economic and consumer protection matters, such as unfair or deceptive practices and methods of competition, advertising, denied boarding compensation, baggage liability and disabled passenger transportation. The DOT also has authority to review certain joint venture agreements between major carriers. The FAA has primary responsibility for matters relating to air carrier flight operations, including airline operating certificates, control of navigable air space, flight personnel, aircraft certification and maintenance and other matters affecting air safety.
 
Authority to operate international routes and international codesharing arrangements is regulated by the DOT and by the governments of the foreign countries involved. International route awards are also subject to the approval of the President of the United States for conformance with national defense and foreign policy objectives.
 
The Transportation Security Administration and the United States Customs and Border Protection, each a division of the Department of Homeland Security, are responsible for certain civil aviation security matters, including passenger and baggage screening at U.S. airports and international passenger prescreening prior to entry into or departure from the United States.
 
Airlines are also subject to various other federal, state, local and foreign laws and regulations. For example, the United States Department of Justice has jurisdiction over airline competition matters. The United States Postal Service has authority over certain aspects of the transportation of mail. Labor relations in the airline industry, as discussed below, are generally governed by the Railway Labor Act. Environmental matters are regulated by various federal, state, local and foreign governmental entities. Privacy of passenger and employee data is regulated by domestic and foreign laws and regulations.
 
Fares and Rates
 
Airlines set ticket prices in most domestic and international city pairs without governmental regulation, and the industry is characterized by significant price competition. Certain international fares and rates are subject to the jurisdiction of the DOT and the governments of the foreign countries involved. Many of our tickets are sold by travel agents, and fares are subject to commissions, overrides and discounts paid to travel agents, brokers and wholesalers.
 
Route Authority
 
Our flight operations are authorized by certificates of public convenience and necessity and, to a limited extent, by exemptions issued by the DOT. The requisite approvals of other governments for international operations are controlled by bilateral agreements with, or permits or approvals issued by, foreign countries. Because international air transportation is governed by bilateral or other agreements between the United States and the foreign country or countries involved, changes in United States or foreign government aviation policies could result in the alteration or termination of such agreements, diminish the value of our international route authorities or otherwise affect our international operations. Bilateral agreements between the United States and various foreign countries served by us are subject to renegotiation from time to time.
 
Certain of our international route and codesharing authorities are subject to periodic renewal requirements. We request extension of these authorities when and as appropriate. While the DOT usually renews temporary authorities on routes where the authorized carrier is providing a reasonable level of service, there is no assurance this practice will continue in general or with respect to a specific renewal. Dormant route authority may not be renewed in some cases, especially where another U.S. carrier indicates a willingness to provide service.
 
Airport Access
 
Operations at three major domestic airports and certain foreign airports served by us are regulated by governmental entities through allocations of “slots” or similar regulatory mechanisms which limit the rights of carriers to conduct operations at those airports. Each slot represents the authorization to land at or take off from the particular airport during a specified time period.
 

5

 
In the United States, the FAA currently regulates slot allocations at Reagan in Washington, D.C., and has imposed analogous regulatory mechanisms which restrict operations at O’Hare International Airport in Chicago, and LaGuardia in New York. Our operations at these airports generally require the allocation of slots or analogous regulatory authorities. We currently have sufficient slots or analogous authorizations to operate our existing flights, and we have generally been able to obtain the rights to expand our operations and to change our schedules. There is no assurance, however, that we will be able to do so in the future because, among other reasons, such allocations are subject to changes in governmental policies.
 
Environmental Matters
 
The Airport Noise and Capacity Act of 1990 recognizes the rights of operators of airports with noise problems to implement local noise abatement programs so long as such programs do not interfere unreasonably with interstate or foreign commerce or the national air transportation system. This statute generally provides that local noise restrictions on Stage 3 aircraft first effective after October 1, 1990, require FAA approval. While we have had sufficient scheduling flexibility to accommodate local noise restrictions in the past, our operations could be adversely impacted if locally-imposed regulations become more restrictive or widespread.
 
The FAA issued a final rule, effective August 4, 2005, adopting the International Civil Aviation Organization’s (“ICAO”) Chapter 4 noise standard, which is known as the Stage 4 standard in the United States. This standard requires that all new commercial jet aircraft designs certificated on or after January 1, 2006 be at least ten decibels quieter than the existing Stage 3 noise standard requires. This new standard does not apply to existing aircraft or to the continued production of aircraft types already certificated. All new aircraft that we have on order will meet the proposed Stage 4 standard. Accordingly, the rule is not expected to have any significant impact on us.
 
The U.S. Environmental Protection Agency (the “EPA”) is authorized to regulate aircraft emissions. Our aircraft comply with the applicable EPA standards. On November 17, 2005, the EPA issued a final rule adopting emissions control standards for aircraft engines previously adopted by the ICAO. These standards apply to newly designed engines certified after December 31, 2003 and align the U.S. aircraft engine emission standards with existing international standards. The rule, as adopted, is not expected to have a material impact on us. However, a group of state and local air regulators has filed a petition for review in the Court of Appeals for the District of Columbia Circuit challenging the rule on a number of grounds. We are monitoring these proceedings.
 
In December 2004, Miami-Dade County filed a lawsuit in Florida Circuit Court against us, seeking injunctive relief and alleging responsibility for past and future environmental cleanup costs and civil penalties for environmental conditions at Miami International Airport. This lawsuit is related to several other actions filed by the County against other parties to recover environmental remediation costs incurred at the airport. This lawsuit is currently stayed as a result of our Chapter 11 proceedings, and we anticipate settling this lawsuit through the bankruptcy process. Although the ultimate outcome of this matter cannot be predicted with certainty, management believes that the resolution of this matter will not have a material adverse effect on our Consolidated Financial Statements.
 
We have been identified by the EPA as a potentially responsible party (a “PRP”) with respect to certain Superfund Sites, and have entered into consent decrees regarding some of these sites. Our alleged disposal volume at each of these sites is small when compared to the total contributions of all PRPs at each site. We are aware of soil and/or ground water contamination present on our current or former leaseholds at several domestic airports. To address this contamination, we have a program in place to investigate and, if appropriate, remediate these sites. We anticipate that many of the environmental liabilities at Superfund Sites and former leaseholds will be resolved through the bankruptcy proceedings. Although the ultimate outcome of these matters cannot be predicted with certainty, management believes that the resolution of these matters will not have a material adverse effect on our Consolidated Financial Statements.
 
Civil Reserve Air Fleet Program
 
We participate in the Civil Reserve Air Fleet program (the “CRAF Program”), which permits the United States military to use the aircraft and crew resources of participating U.S. airlines during airlift emergencies, national emergencies or times of war. We have agreed to make available under the CRAF Program a portion of our international range aircraft from October 1, 2006 until September 30, 2007. As of October 1, 2006, the following numbers of our international range aircraft are available for CRAF activation:
 

6

 

Stage
  
Description of
Event Leading to
Activation
  
International Passenger
Aircraft Allocated
  
Number of
Aeromedical Aircraft
Allocated
  
 
Total Aircraft by
Stage
                 
I
  
Minor Crisis
  
 7
  
N/A
  
  7
                 
II
  
Major Theater Conflict
  
13
  
13
  
26
                 
III
  
Total National Mobilization
  
43
  
44
  
87
 
The CRAF Program has only been activated twice, both times at the Stage I level, since it was created in 1951.
 
Regulatory and Legislative Proposals
 
A number of Congressional bills and proposed DOT regulations have been considered in recent years to address airline competition and other issues. Some of these proposals would require large airlines with major operations at certain airports to divest or make available to other airlines slots, gates, facilities and other assets at those airports. Other measures would limit the service or pricing responses of major carriers that appear to target new entrant airlines. In addition, concerns about airport congestion issues have caused the DOT and FAA to consider various proposals for access to certain airports, including “congestion-based” landing fees and programs that would withdraw slots from existing carriers and reallocate those slots (either by lottery or auction to the highest bidder) to carriers with little or no current presence at such airports. These proposals, if enacted, could negatively impact our existing services and our ability to respond to competitive actions by other airlines. Furthermore, recent events related to extreme weather delays may cause the DOT to consider proposals related to airlines’ handling of lengthy flight delays during extreme weather conditions.
 
Employee Matters
 
Railway Labor Act
 
Our relations with labor unions in the United States are governed by the Railway Labor Act. Under the Railway Labor Act, a labor union seeking to represent an unrepresented craft or class of employees is required to file with the National Mediation Board (the “NMB”) an application alleging a representation dispute, along with authorization cards signed by at least 35% of the employees in that craft or class. The NMB then investigates the dispute and, if it finds the labor union has obtained a sufficient number of authorization cards, conducts an election to determine whether to certify the labor union as the collective bargaining representative of that craft or class. Under the NMB’s usual rules, a labor union will be certified as the representative of the employees in a craft or class only if more than 50% of those employees vote for union representation. A certified labor union then enters into negotiations toward a collective bargaining agreement with the employer.
 
Under the Railway Labor Act, a collective bargaining agreement between an airline and a labor union does not expire, but instead becomes amendable as of a stated date. Either party may request that the NMB appoint a federal mediator to participate in the negotiations for a new or amended agreement. If no agreement is reached in mediation, the NMB may determine, at any time, that an impasse exists and offer binding arbitration. If either party rejects binding arbitration, a 30-day “cooling off” period begins. At the end of this 30-day period, the parties may engage in “self help,” unless the President of the United States appoints a Presidential Emergency Board (“PEB”) to investigate and report on the dispute. The appointment of a PEB maintains the “status quo” for an additional 60 days. If the parties do not reach agreement during this period, the parties may then engage in “self help.” “Self help” includes, among other things, a strike by the union or the imposition of proposed changes to the collective bargaining agreement by the airline. Congress and the President have the authority to prevent “self help” by enacting legislation that, among other things, imposes a settlement on the parties.
 

7

 
Collective Bargaining
 
As of December 31, 2006, we had a total of approximately 51,300 full-time equivalent employees. Approximately 17% of these employees are represented by unions. The following table presents certain information concerning the union representation of our active domestic employees.
 
 
Employee Group
  
Approximate
Number of
Employees
Represented
  
 
Union
  
Date on which Collective
Bargaining Agreement
Becomes Amendable
             
Delta Pilots
  
5,810
  
ALPA
  
December 31, 2009
             
Delta Flight Superintendents
  
    170
  
PAFCA
  
January 1, 2010
             
Comair Pilots
  
1,345
  
ALPA
  
May 21, 2007(1)
             
Comair Maintenance Employees
  
    535
  
IAM
  
December 31, 2010
             
Comair Flight Attendants
 
  
   880
  
IBT
  
December 31, 2010

 
(1)
On February 12, 2007, Comair and ALPA reached a tentative agreement to reduce Comair’s pilot labor costs. The agreement is subject to ratification by Comair pilots and Bankruptcy Court approval. If ratified and approved, the agreement would become effective March 2, 2007 and become amendable on March 2, 2011.
 
Labor unions periodically engage in organizing efforts to represent various groups of employees of Delta and Comair that are not represented for collective bargaining purposes. The timing and outcome of these organizing efforts cannot presently be determined.
 
For additional information about our collective bargaining agreements, see Note 1 of the Notes to the Consolidated Financial Statements.
 
Additional Information 
 
We make available free of charge on our website our Annual Report on Form 10-K, our Quarterly Reports on Form 10-Q, our Current Reports on Form 8-K and amendments to those reports as soon as reasonably practicable after these reports are filed with or furnished to the Securities and Exchange Commission. Information on our website is not incorporated into this Form 10-K or our other securities filings and is not a part of those filings.
 

8

 
ITEM 1A. RISK FACTORS
 
Risk Factors Relating to Delta
 
We filed for reorganization under Chapter 11 of the Bankruptcy Code on September 14, 2005 and are subject to the risks and uncertainties associated with Chapter 11 proceedings.
 
For the duration of our Chapter 11 proceedings, our operations, including our ability to execute our business plan, are subject to the risks and uncertainties associated with bankruptcy. Risks and uncertainties associated with our Chapter 11 proceedings include the following:
 
·
our ability to prosecute, confirm and consummate our proposed Plan;
 
·
the actions and decisions of our creditors and other third parties who have interests in our Chapter 11 proceedings that may be inconsistent with our plans;
 
·
our ability to obtain court approval with respect to motions in the Chapter 11 proceedings prosecuted from time to time;
 
·
our ability to obtain and maintain normal terms with vendors and service providers;
 
·
our ability to maintain contracts that are critical to our operations; and
 
·
risks associated with third parties seeking and obtaining court approval to terminate or shorten the exclusivity period for us to confirm our proposed Plan, to appoint a Chapter 11 trustee or to convert the cases to Chapter 7 cases.
 
These risks and uncertainties could affect our business and operations in various ways. For example, negative events or publicity associated with our Chapter 11 proceedings could adversely affect our sales of tickets and the relationship with our customers, as well as with vendors and employees, which in turn could adversely affect our operations and financial condition, particularly if the Chapter 11 proceedings are unexpectedly protracted. Also, transactions outside the ordinary course of business are subject to the prior approval of the Bankruptcy Court, which may limit our ability to respond timely to certain events or take advantage of certain opportunities.
 
Because of the risks and uncertainties associated with our Chapter 11 proceedings, the ultimate impact that events that occur during these proceedings will have on our business, financial condition and results of operations cannot be accurately predicted or quantified.
 
Our business is dependent on the price and availability of aircraft fuel. Continued periods of historically high fuel costs will continue to materially adversely affect our operating results. Likewise, significant disruptions in the supply of aircraft fuel would materially adversely affect our operations and operating results.
 
Our operating results are significantly impacted by changes in the price and availability of aircraft fuel. Fuel prices increased substantially in 2004, 2005 and 2006. In 2006, our average fuel price per gallon rose 19% to $2.04 as compared to an average price of $1.71 in 2005, which was 47% higher than our average price of $1.16 in 2004. In 2003, our average fuel price per gallon was 81.78¢. The fuel costs represented 25%, 23%, and 16% of our operating expenses in 2006, 2005 and 2004, respectively. These increasing costs have had a significant negative effect on our results of operations and financial condition.
 
Our ability to pass along the increased costs of fuel to our customers is limited by the competitive nature of the airline industry. We often have not been able to increase our fares to fully offset the effect of increased fuel costs in the past and we may not be able to do so in the future.
 

9

 
In addition, our aircraft fuel purchase contracts do not provide material protection against price increases or assure the availability of our fuel supplies. We purchase most of our aircraft fuel under contracts that establish the price based on various market indices. We also purchase aircraft fuel on the spot market, from offshore sources and under contracts that permit the refiners to set the price. To attempt to manage our exposure to changes in fuel prices, we periodically use derivative instruments designated as cash flow hedges, which are comprised of heating oil and jet fuel swap and collar contracts, though we may not be able to successfully manage this exposure. Depending on the type of hedging instrument used, our ability to benefit from declines in fuel prices may be limited.
 
We are currently able to obtain adequate supplies of aircraft fuel, but it is impossible to predict the future availability or price of aircraft fuel. Weather-related events, natural disasters, political disruptions or wars involving oil-producing countries, changes in governmental policy concerning aircraft fuel production, transportation or marketing, changes in aircraft fuel production capacity, environmental concerns and other unpredictable events may result in additional fuel supply shortages and fuel price increases in the future. Additional increases in fuel costs or disruptions in fuel supplies could have additional negative effects on us.
 
Our substantial indebtedness may limit our financial and operating activities and may adversely affect our ability to incur additional debt to fund future needs.
 
We will have substantial indebtedness even if our Plan is consummated. Our substantial indebtedness could have important consequences. For example, our substantial indebtedness could:
 
·
require us to dedicate a substantial portion of cash flow from operations to the payment of principal, and interest on, indebtedness, thereby reducing the funds available for other purposes;
 
·
make us more vulnerable to economic downturns, adverse industry conditions or catastrophic external events;
 
·
limit our ability to withstand competitive pressures;
 
·
reduce our flexibility in planning for or responding to changing business and economic conditions; and/or
 
·
place us at a competitive disadvantage to competitors that have relatively less debt than we have.
 
In addition, a substantial level of indebtedness could limit our ability to obtain additional financing on acceptable terms or at all for working capital, capital expenditures and general corporate purposes. We have historically had substantial liquidity needs in the operation of our business. These liquidity needs could vary significantly and may be affected by general economic conditions, industry trends, performance and many other factors not within our control. Substantial indebtedness, along with other factors, will limit our ability to obtain financing to meet such liquidity needs.
 
Our exit financing credit facility will include financial and other covenants that will impose restrictions on our financial and business operations.
 
As part of the Plan, we expect to enter into an exit financing credit facility with various lenders from whom we have received commitments. This credit facility will contain financial covenants that will require us to maintain a minimum fixed charge ratio, minimum unrestricted cash reserves and minimum collateral coverage ratios. In addition, our exit financing credit facility will restrict our ability to, among other things, incur additional secured indebtedness, make investments, sell assets if not in compliance with coverage ratio tests, pay dividends or repurchase stock. These covenants may have a material impact on our operations. In addition, if we fail to comply with the covenants in the exit financing credit facility and are unable to obtain a waiver or amendment, an event of default would result under the exit financing credit facility.
 
The exit financing credit facility is also expected to contain other events of default customary for financings of this type, including cross defaults to certain other indebtedness and certain change of control events. If an event of default were to occur, the lenders could declare outstanding borrowings under these agreements immediately due and payable. We cannot provide assurance that we would have sufficient liquidity to repay or refinance borrowings under the exit financing credit facility if accelerated upon an event of default. In addition, an event of default or declaration of acceleration under the exit financing credit facility could also result in an event of default under other indebtedness.
 

10

 
The closing and funding of the exit financing credit facility is subject to the completion of definitive documentation and other conditions.
 
Employee strikes and other labor-related disruptions may adversely affect our operations.
 
Our business is labor intensive, utilizing large numbers of pilots, flight attendants and other personnel. Approximately 18% of our workforce is unionized. Strikes or labor disputes with our unionized employees may adversely affect our ability to conduct business. Relations between air carriers and labor unions in the United States are governed by the Railway Labor Act, which provides that a collective bargaining agreement between an airline and a labor union does not expire, but instead becomes amendable as of a stated date. The Railway Labor Act generally prohibits strikes or other types of self-help actions both before and after a collective bargaining agreement becomes amendable, unless and until the collective bargaining processes required by the Railway Labor Act have been exhausted.
 
In addition, if we or our affiliates are unable to reach agreement with any of our unionized work groups on future negotiations regarding the terms of their collective bargaining agreements or if additional segments of our workforce become unionized, they may be subject to work interruptions or stoppages, subject to the requirements of the Railway Labor Act and the Bankruptcy Code. See Note 1 of the Notes to the Consolidated Financial Statements for information about Comair’s negotiations with its work groups. Likewise, if third party regional carriers with whom we have contract carrier agreements are unable to reach agreement with their unionized work groups on current or future negotiations regarding the terms of their collective bargaining agreements, those carriers may be subject to work interruptions or stoppages, subject to the requirements of the Railway Labor Act, which could have a negative impact on our operations.
 
Interruptions or disruptions in service at one of our hub airports could have a material adverse impact on our operations.
 
Our business is heavily dependent on our operations at the Atlanta Airport and at our other hub airports in Cincinnati, JFK and Salt Lake City. Each of these hub operations includes flights that gather and distribute traffic from markets in the geographic region surrounding the hub to other major cities and to other Delta hubs. A significant interruption or disruption in service at the Atlanta airport or at one of the company’s other hubs could have a serious impact on our business, financial condition and results of operations.
 
We are increasingly dependent on technology in our operations, and if our technology fails or we are unable to continue to invest in new technology, our business may be adversely affected.
 
We have become increasingly dependent on technology initiatives to reduce costs and to enhance customer service in order to compete in the current business environment. For example, we have made significant investments in delta.com, check-in kiosks, “Delta Direct” phone banks and related initiatives. The performance and reliability of the technology are critical to our ability to attract and retain customers and our ability to compete effectively. These initiatives will continue to require significant capital investments in our technology infrastructure to deliver these expected benefits. If we are unable to make these investments, our business and operations could be negatively affected.
 
In addition, any internal technology error or failure or large scale external interruption in technology infrastructure we depend on, such as power, telecommunications or the internet, may disrupt our technology network. Any individual, sustained or repeated failure of technology could impact our customer service and result in increased costs. Like all companies, our technology systems and related data may be vulnerable to a variety of sources of interruption due to events beyond our control, including natural disasters, terrorist attacks, telecommunications failures, computer viruses, hackers and other security issues. While we have in place, and continue to invest in, technology security initiatives and disaster recovery plans, these measures may not be adequate or implemented properly to prevent a business disruption and its adverse financial consequences to our business.
 

11

 
If we experience further losses of senior management and other key employees, our operating results could be adversely affected, and we may not be able to attract and retain additional qualified management personnel.
 
We are dependent on the experience and industry knowledge of our officers and other key employees to execute our business plans. Our financial performance, along with our Chapter 11 proceedings, created uncertainty that led to a significant increase in unwanted attrition. Although unwanted attrition has slowed, we remain at risk of losing additional management talent critical to the successful transformation and ongoing operation of our business. If we experience a substantial turnover in our leadership and other key employees, our performance could be materially adversely impacted. Furthermore, we may be unable to attract and retain additional qualified executives as needed in the future.
 
We are facing significant litigation and if any such significant litigation is concluded in a manner adverse to us, our financial condition and operating results could be materially adversely affected.
 
We are involved in legal proceedings relating to antitrust matters, employment practices, environmental issues and other matters concerning our business. As a result of our Chapter 11 filing, most attempts to collect, secure or enforce remedies with respect to pre-petition claims against the company are subject to the automatic stay provisions of section 362(a) of the Bankruptcy Code and certain liabilities could be discharged in the Chapter 11 proceedings. While we cannot reasonably estimate the potential loss for certain of our legal proceedings because, for example, the litigation is in its early stages or the plaintiff does not specify damages being sought, if the outcome of any significant litigation is adverse to the company and such proceedings are not discharged in the Chapter 11 proceedings, our financial condition and operating results could be materially adversely impacted.
 
We are at risk of losses and adverse publicity stemming from any accident involving our aircraft.
 
An aircraft crash or other accident could expose us to significant tort liability. The insurance we carry to cover damages arising from any future accidents may be inadequate. In the event that the insurance is not adequate, we may be forced to bear substantial losses from an accident. In addition, any accident involving an aircraft that we operate or an aircraft that is operated by an airline that is one of our codeshare partners could create a public perception that our aircraft are not safe or reliable, which could harm our reputation, result in air travelers being reluctant to fly on our aircraft and harm our business. For a description of the Comair flight 5191 accident, see “Legal Proceedings - Comair Flight 5191” in Item 3.
 
Any “ownership change” could limit our ability to utilize our net operating losses carryforwards.
 
Under the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”), a corporation is generally allowed a deduction in any taxable year for net operating losses carried over from prior years. As of December 31, 2006, we had approximately $7.8 billion of federal and state net operating loss carryforwards.
 
A corporation’s use of its net operating loss carryforwards is generally limited under section 382 of the Internal Revenue Code if a corporation undergoes an “ownership change.” When an “ownership change” occurs pursuant to the implementation of a plan of reorganization under the Bankruptcy Code, the general limitation under section 382 of the Internal Revenue Code may not apply if certain requirements are satisfied under either section 382(l)(5) or section 382(l)(6) of the Internal Revenue Code. We will experience an “ownership change” in connection with the Plan, but we have not yet determined whether we will be eligible for or rely on the special rule under section 382(l)(5) or the special rule under section 382(l)(6). Assuming we rely on section 382(l)(5) of the Internal Revenue Code, a second “ownership change” within two years from the effective date of the Plan would eliminate completely our ability to utilize our net operating loss carryovers. Regardless of whether we rely on section 382(l)(5) of the Internal Revenue Code, an “ownership change” after the effective date of the Plan could significantly limit our ability to utilize our net operating loss carryforwards for taxable years including or following such “ownership change.”
 

12

 
Transfer restrictions on our stock issued in connection with the Plan may limit the liquidity of our stock.
 
To reduce the risk of a potential adverse effect on our ability to utilize our net operating loss carryovers, our new certificate of incorporation will contain certain restrictions on the transfer of our stock issued in connection with the Plan. These transfer restrictions will be effective for two years following the effective date of the Plan, subject to extension for an additional three years. These transfer restrictions may adversely affect the ability of certain holders of our stock to dispose of or acquire shares of our stock during the period the restrictions are in place. Furthermore, while the purpose of these transfer restrictions is to prevent an “ownership change” from occurring within the meaning of section 382 of the Internal Revenue Code, no assurance can be given that such an ownership change will not occur.
 
Risk Factors Relating to the Airline Industry
 
The airline industry is highly competitive and, if we cannot successfully compete in the marketplace, our business, financial condition and operating results will be materially adversely affected.
 
We face significant competition with respect to routes, services and fares. Our domestic routes are subject to competition from both new and established carriers, some of which have lower costs than we do and provide service at low fares to destinations served by us. In particular, we face significant competition at our hub airports in Atlanta and JFK from other carriers. In addition, our operations at our hub airports also compete with operations at the hubs of other airlines that are located in close proximity to our hubs. For example, our hubs in Atlanta, JFK, Cincinnati and Salt Lake City compete with, among others, U.S. Airways’ hubs in Charlotte, Philadelphia, Pittsburgh, and Phoenix, respectively. We also face increasing competition in smaller to medium-sized markets from rapidly expanding regional jet operators. In addition, we compete with foreign carriers, both on interior U.S. routes, due to marketing and codesharing arrangements, and in international markets.
 
The continuing growth of low-cost carriers, including Southwest, AirTran and JetBlue, in the United States has placed significant competitive pressure on us and other network carriers. In addition, other hub-and-spoke carriers such as US Airways and United Airlines reduced their costs through Chapter 11 reorganizations. Our ability to compete effectively with low-cost carriers, restructured carriers and other airlines depends, in part, on our ability to maintain a cost structure that is competitive with those carriers. If we cannot maintain our costs at a competitive level, then our business, financial condition and operating results could be materially adversely affected.
 
The airline industry has changed fundamentally since the terrorist attacks on September 11, 2001, and our business, financial condition and operating results have been materially adversely affected.
 
Since the terrorist attacks of September 11, 2001, the airline industry has experienced fundamental and permanent changes, including substantial revenue declines and cost increases, which have resulted in industry-wide liquidity issues. The terrorist attacks significantly reduced the demand for air travel, and additional terrorist activity involving the airline industry could have an equal or greater impact. Additional terrorist attacks or fear of such attacks, even if not made directly on the airline industry, negatively affect us and the airline industry. Although global economic conditions have improved from their depressed levels after September 11, 2001, the airline industry in the United States experienced a prolonged reduction in business travel and increased price sensitivity in customers’ purchasing behavior. In addition, aircraft fuel prices have increased significantly during the last several years, were at historically high levels for an extended period during 2005 and remained at or near those levels during 2006. Industry capacity has remained high despite these conditions. We expect that all of these conditions will persist.
 
The airline industry is subject to extensive government regulation, and new regulations may increase our operating costs.
 
Airlines are subject to extensive regulatory and legal compliance requirements that result in significant costs. For instance, the FAA from time to time issues directives and other regulations relating to the maintenance and operation of aircraft that necessitate significant expenditures. We expect to continue incurring expenses to comply with the FAA’s regulations.
 

13

 
Other laws, regulations, taxes and airport rates and charges have also been imposed from time to time that significantly increase the cost of airline operations or reduce revenues. For example, the Aviation and Transportation Security Act, which became law in November 2001, mandates the federalization of certain airport security procedures and imposes additional security requirements on airports and airlines, most of which are funded by a per ticket tax on passengers and a tax on airlines. The federal government has on several occasions proposed a significant increase in the per ticket tax. Due to the weak revenue environment, the existing tax has negatively impacted our revenues because we have generally not been able to increase our fares to pass these fees on to our customers. Similarly, the proposed ticket tax increase, if implemented, could negatively impact our revenues.
 
Furthermore, we and other U.S. carriers are subject to domestic and foreign laws regarding privacy of passenger and employee data that are not consistent in all countries in which we operate. In addition to the heightened level of concern regarding privacy of passenger data in the United States, certain European government agencies are initiating inquiries into airline privacy practices. Compliance with these regulatory regimes is expected to result in additional operating costs and could impact our operations and any future expansion.
 
Our insurance costs have increased substantially as a result of the September 11 terrorist attacks, and further increases in insurance costs or reductions in coverage could have a material adverse impact on our business and operating results.
 
As a result of the terrorist attacks on September 11, 2001, aviation insurers significantly reduced the maximum amount of insurance coverage available to commercial air carriers for liability to persons (other than employees or passengers) for claims resulting from acts of terrorism, war or similar events. At the same time, aviation insurers significantly increased the premiums for such coverage and for aviation insurance in general. Since September 24, 2001, the U.S. government has been providing U.S. airlines with war-risk insurance to cover losses, including those resulting from terrorism, to passengers, third parties (ground damage) and the aircraft hull. The coverage currently extends through August 31, 2007. The withdrawal of government support of airline war-risk insurance would require us to obtain war-risk insurance coverage commercially, if available. Such commercial insurance could have substantially less desirable coverage than that currently provided by the U.S. government, may not be adequate to protect our risk of loss from future acts of terrorism, may result in a material increase to our operating expenses or may not be obtainable at all, resulting in an interruption to our operations.
 
ITEM 1B. UNRESOLVED STAFF COMMENTS
 
None.
 

14

 
ITEM 2.          PROPERTIES
 
Flight Equipment
 
Our active aircraft fleet at December 31, 2006 is summarized in the following table.

   
Current Fleet
  
Aircraft Type
  
Owned
  
Capital
Lease
  
Operating
Lease
  
Total
Average
Age
B-737-800
  
  71
  
—
  
—
  
  71
  6.2
B-757-200
  
  68
  
32
  
21
  
121
15.3
B-767-300
  
   4
  
   1
  
19
  
  24
16.4
B-767-300ER
  
   50
  
—
  
9
  
  59
10.9
B-767-400ER
  
   21
  
—
  
—
  
  21
  5.8
B-777-200ER
  
    8
  
—
  
—
  
   8
  6.9
MD-88
  
  63
  
32
  
25
  
120
16.5
MD-90
  
  16
  
—
  
—
  
  16
11.1
CRJ-100
  
   20
  
—
  
83
  
103
  9.3
CRJ-200
  
   21
  
—
  
  9
  
  30
  4.2
CRJ-700
  
   27
  
—
  
—
  
  27
  3.4
Total
  
369
  
65
  
166
  
600
11.4
 
Our purchase commitments (firm orders) for aircraft as well as options to purchase additional aircraft, as of December 31, 2006, are shown in the tables below.

 
Delivery in Calendar Years Ending
  
Aircraft on Firm Order
2007
2008
2009
2010
Total
  
B-737-700
—
7
3
—
10
  
B-737-800
10
7
14
19
50
 (1)
B-777-200LR
—
2
3
—
5
  
Total(2)
10
16
20
19
65
  
 
(1)
We have definitive agreements, which were approved by the Bankruptcy Court, with third parties to sell 48 B-737-800 aircraft immediately after those aircraft are delivered to us by the manufacturer starting in 2007. These aircraft are included in the above table because we continue to have a contractual obligation to purchase these aircraft from the manufacturer.
   
(2)
See Note 8 of the Notes to the Consolidated Financial Statements for information about (a) an agreement we entered into in January 2007 to purchase 30 CRJ-900 aircraft, with options to acquire an additional 30 CRJ-900 aircraft, and (b) letters of intent we have entered into to lease 13 B-757-200ER aircraft from third parties.
 
 
   
Delivery in Calendar Years Ending
  
 
Aircraft on Option(1)
  
 
2008
  
 
2009
  
 
2010
  
After
2010
  
 
Total
  
Rolling
Options
  
B-737-800
    
—
    
—
    
14
    
46
    
60
    
120
  
B-767-300/300ER
    
1
    
2
    
2
    
5
    
10
    
2
  
B-767-400
    
1
    
2
    
2
    
13
    
18
    
—
  
B-777-200LR
    
1
    
—
    
2
    
8
    
11
    
13
  
CRJ-200
    
13
    
15
    
5
    
—
    
33
    
—
  
CRJ-700
    
11
    
19
    
5
    
—
    
35
    
—
  
Total
    
27
    
38
    
30
    
72
    
167
    
135
  
 
(1)
Aircraft options have scheduled delivery slots, while rolling options replace options and are assigned delivery slots as options expire or are exercised. See Note 8 of the Notes to the Consolidated Financial Statements for information about an agreement we entered into in January 2007 to purchase 30 CRJ-900 aircraft, with options to acquire an additional 30 aircraft.
 

15

 
Ground Facilities
 
We lease most of the land and buildings that we occupy. Our largest aircraft maintenance base, various computer, cargo, flight kitchen and training facilities and most of our principal offices are located at or near the Atlanta Airport, on land leased from the City of Atlanta generally under long-term leases. We own a portion of our principal offices, our Atlanta reservations center and other real property in Atlanta.
 
We lease ticket counter and other terminal space, operating areas and air cargo facilities in most of the airports that we serve. At most airports that we serve, we have entered into use agreements which provide for the non-exclusive use of runways, taxiways, and other improvements and facilities; landing fees under these agreements normally are based on the number of landings and weight of aircraft. These leases and use agreements generally run for periods of less than one year to thirty years or more, and often contain provisions for periodic adjustments of lease rates, landing fees and other charges applicable under that type of agreement. Examples of major leases and use agreements at Delta hub or other significant airports that will expire in the next several years include, among others: (1) Atlanta central passenger terminal lease and the airport use agreement, which expire in 2010; (2) Salt Lake City airport use and lease agreement, which expires in 2008; and (3) LaGuardia terminal lease, which expires in 2008. We also lease aircraft maintenance facilities and air cargo facilities at certain airports, including, among others, our main Atlanta maintenance base, Atlanta air cargo facilities and hangar and air cargo facilities at the Cincinnati/Northern Kentucky International Airport and Salt Lake City International Airport. Our aircraft maintenance facility leases generally require us to pay the cost of providing, operating and maintaining such facilities, including, in some cases, amounts necessary to pay debt service on special facility bonds issued to finance their construction. We also lease marketing, ticket and reservations offices in certain locations for varying terms. Additional information relating to our leases of our ground facilities is set forth in Note 7 of the Notes to the Consolidated Financial Statements.
 
In recent years, some airports have increased or sought to increase the rates charged to airlines to levels that we believe are unreasonable. The extent to which such charges are limited by statute or regulation and the ability of airlines to contest such charges has been subject to litigation and to administrative proceedings before the DOT. If the limitations on such charges are relaxed, or the ability of airlines to challenge such proposed rate increases is restricted, the rates charged by airports to airlines may increase substantially.
 
The City of Atlanta, with our support and the support of other airlines, is currently implementing portions of a ten year capital improvement program (the “CIP”) at the Atlanta Airport. Implementation of the CIP should increase the number of flights that may operate at the airport and reduce flight delays. The CIP includes, among other things, a new approximately 9,000 foot full-service runway that opened in May 2006, related airfield improvements, additional terminal and gate capacity, new cargo and other support facilities and roadway and other infrastructure improvements. If fully implemented, the CIP is currently estimated by the City of Atlanta to cost approximately $6.8 billion, which exceeds the $5.4 billion CIP approved by the airlines in 1999. The CIP runs through 2010, with individual projects scheduled to be constructed at different times. A combination of federal grants, passenger facility charge revenues, increased user rentals and fees, and other airport funds are expected to be used to pay CIP costs directly and through the payment of debt service on bonds. Certain elements of the CIP have been delayed, and there is no assurance that the CIP will be fully implemented. Failure to implement certain portions of the CIP in a timely manner could adversely impact our operations at the Atlanta Airport.
 
ITEM 3.          LEGAL PROCEEDINGS
 
Chapter 11 Proceedings
 
As discussed above, on September 14, 2005, we and certain of our subsidiaries filed voluntary petitions for reorganization under Chapter 11 of the Bankruptcy Code in the Bankruptcy Court. The reorganization cases are being jointly administered under the caption “In re Delta Air Lines, Inc., et al., Case No. 05-17923-ASH.” The Debtors continue to operate their business as “debtors-in-possession” under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court. As of the date of the Chapter 11 filing, then pending litigation against the Debtors was generally stayed, and absent further order of the Bankruptcy Court, most parties may not take any action to recover on pre-petition claims against the Debtors.
 

16

 
Delta Family-Care Savings Plan Litigation
 
On March 16, 2005, a retired Delta employee filed an amended class action complaint in the U.S. District Court for the Northern District of Georgia against Delta, certain current and former Delta officers and certain current and former Delta directors on behalf of himself and other participants in the Delta Family-Care Savings Plan (“Savings Plan”). The amended complaint alleges that the defendants were fiduciaries of the Savings Plan and, as such, breached their fiduciary duties under ERISA to the plaintiff class by (1) allowing class members to direct their contributions under the Savings Plan to a fund invested in Delta common stock; and (2) continuing to hold Delta’s contributions to the Savings Plan in Delta’s common and preferred stock. The amended complaint seeks damages unspecified in amount, but equal to the total loss of value in the participants’ accounts from September 2000 through September 2005 from the investment in Delta stock. Defendants deny that there was any breach of fiduciary duty, and have moved to dismiss the complaint. The District Court stayed the action against Delta due to the bankruptcy filing and granted the motion to dismiss filed by the individual defendants. The plaintiffs appealed to the United States Court of Appeals for the Eleventh Circuit the District Court’s decision to dismiss the complaint against the individual defendants but voluntarily dismissed this appeal, pending resolution of the automatic stay of their claim against Delta.
 
Comair Flight 5191
 
On August 27, 2006, Comair Flight 5191 crashed shortly after take-off in a field near the Blue Grass Airport in Lexington, Kentucky. All 47 passengers and two members of the flight crew died in the accident. The third crew member survived with severe injuries. Lawsuits arising out of this accident have been filed against Comair on behalf of at least 36 passengers, including a number of lawsuits that also name Delta as a defendant. Additional lawsuits are anticipated. These lawsuits, which are in preliminary stages, generally assert claims for wrongful death and related personal injuries, and seek unspecified damages, including punitive damages in most cases. All but four of the lawsuits filed to date have been filed either in the U.S. District Court for the Eastern District of Kentucky or in state court in Fayette County, Kentucky. The cases filed in state court in Kentucky have been or are expected to be removed to federal court. One lawsuit has been filed in the U.S. District Court for the Northern District of New York, one lawsuit has been filed in state court in Broward County, Florida, and two lawsuits have been filed in the U.S. District Court for the District of Kansas. The federal court in New York has ordered the case filed there to be transferred to the federal court in Kentucky. Our motion is currently pending in federal court in Florida to transfer the case filed in Florida to the federal court in Kentucky. We are also seeking to transfer the lawsuits filed in Kansas to the federal court in Kentucky. Those matters pending in the Eastern District of Kentucky have been consolidated as “In Re Air Crash at Lexington, Kentucky, August 27, 2006, Master File No. 5:06-CV-316.”
 
In addition, Comair has filed an action in the U.S. District Court for the Eastern District of Kentucky against the United States (based on the actions of the FAA), the Lexington Airport Board and certain other Lexington airport defendants, seeking to apportion potential liability for damages arising from this accident among all responsible parties.
 
We carry aviation risk liability insurance and believe that this insurance is sufficient to cover any liability likely to arise from this accident.
 
***
 
For a discussion of certain environmental matters, see “Business — Environmental Matters” in Item 1.
 
ITEM 4.          SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
No matters were submitted to a vote of our security holders during the fourth quarter of the fiscal year covered by this report.
 

17

 
PART II
 
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
 
Until October 13, 2005, our common stock was traded on the New York Stock Exchange (“NYSE”) under the symbol “DAL”. As the result of our bankruptcy proceedings, our common stock was suspended from trading by the NYSE on October 13, 2005 and thereafter delisted by the NYSE. Our common stock is being quoted and, has been quoted since its suspension from the NYSE, on the Pink Sheets Electronic Quotation Service (“Pink Sheets”) maintained by Pink Sheets LLC for the National Quotation Bureau, Inc. The tickler symbol “DALRQ” has been assigned to our common stock for over-the-counter quotations.
 
The following table sets forth for the periods indicated, the highest and lowest sales price for our common stock, as reported on the NYSE for the period through October 13, 2005 and the quarterly high and low bid quotations for our common stock as reported on the Pink Sheets for the period beginning October 13, 2005. The quotations from the Pink Sheets reflect inter-dealer prices, without retail markup, markdown or commissions, and may not represent actual transactions.
 
   
High
  
Low
  
Fiscal 2005
              
First Quarter
  
$
7.78
  
$
3.80
  
Second Quarter
    
4.39
    
2.46
  
Third Quarter
    
4.10
    
0.68
  
Fourth Quarter (through October 13, 2005)
   
0.87
    
0.58
  
Fourth Quarter (from October 13, 2005)
    
0.89
    
0.50
  
Fiscal 2006
              
First Quarter
  
$
0.88
  
$
0.30
  
Second Quarter
    
0.81
    
0.50
  
Third Quarter
    
1.78
    
0.63
  
Fourth Quarter
    
1.77
    
0.96
  
 
As of January 31, 2007, there were approximately 25,270 holders of record of our common stock.
 
We suspended the payment of dividends on our common stock in 2003. We expect to retain any future earnings to fund our operations and meet our cash and liquidity needs. Therefore, we do not anticipate paying any dividends on our common stock for the foreseeable future.
 
Current holders of Delta’s common stock and other equity interests will not receive any distributions under the Debtors’ proposed Plan. These equity interests would be cancelled upon the effectiveness of the proposed Plan. Accordingly, we urge that caution be exercised with respect to existing and future investments in Delta’s equity securities and any of Delta’s liabilities or other securities.
 
 

 

18

 
ITEM 6. SELECTED FINANCIAL DATA
 
Consolidated Summary of Operations(1)
For the years ended December 31,

(in millions, except share data)
  
2006 (2)
  
2005 (3)
  
2004 (4) 
  
2003 (5) 
  
2002 (6)
  
Operating revenues
  
$
17,171
  
$
16,191
  
$
15,235
  
$
14,308
  
$
13,866
  
Operating expenses
    
17,113
    
18,192
    
18,543
    
15,093
    
15,175
  
Operating income (loss)
    
58
    
(2,001
)
  
(3,308
)
  
(785
)
  
(1,309
)
Interest expense, net(7)
    
(801
)
  
(973
)
  
(787
)
  
(721
)
  
(629
)
Miscellaneous income, net(8)
    
(19
)
  
(1
)
  
94
    
317
    
(22
)
Gain (loss) on extinguishment of debt, net
    
—
    
—
    
9
    
—
    
(42
)
Loss before reorganization items, net
    
(762
)
  
(2,975
)
  
(3,992
)
  
(1,189
)
  
(2,002
)
Reorganization items, net
    
(6,206
)
  
(884
)
  
—
    
—
    
—
  
Loss before income taxes
    
(6,968
)
  
(3,859
)
  
(3,992
)
  
(1,189
)
  
(2,002
)
Income tax benefit (provision)
   
765
    
41
    
(1,206
)
  
416
    
730
  
Net loss
    
(6,203
)
  
(3,818
)
  
(5,198
)
  
(773
)
  
(1,272
)
Preferred stock dividends
    
(2
)
  
(18
)
  
(19
)
  
(17
)
  
(15
)
Net loss attributable to common shareowners
  
$
(6,205
)
$
(3,836
)
$
(5,217
)
$
(790
)
$
(1,287
)
Basic and diluted loss per share
 
$
(31.58
)
$
(23.75
)
$
(41.07
)
$
(6.40
)
$
(10.44
)
Dividends declared per common share
  
$
—
  
$
—
  
$
—
  
$
0.05
  
$
0.10
  

Other Financial and Statistical Data(1)
For the years ended December 31,

   
2006 (2)
 
2005 (3)
 
2004 (4)
 
2003 (5)
 
2002 (6)
  

Total assets (millions)
   $
19,622
   $  20,039   $ 21,801   $  25,939   $  24,720  
Long-term debt and capital leases (excluding current maturities) (millions)
  
$
6,509
  
$
6,557
  
$
13,005
  
$
11,538
  
$
10,174
  
Shareowners’ (deficit) equity (millions)
  
$
(13,593
)
$
(9,895
)
$
(5,796
)
$
(659
)
$
893
  
Weighted average shares outstanding
   
196,496,349
    
161,532,291
    
127,033,234
    
123,397,129
    
123,292,670
  
Revenue passengers enplaned (thousands)
    
106,649
    
118,853
    
110,000
    
104,452
    
107,048
  
Available seat miles (millions)
    
147,995
    
156,793
    
151,679
    
139,505
    
145,232
  
Revenue passenger miles (millions)
    
116,133
    
119,954
    
113,311
    
102,301
    
104,422
  
Operating revenue per available seat mile
    
11.60
¢
  
10.33
¢
  
10.04
¢
  
10.26
¢
  
9.55
¢
Passenger revenue per available seat mile
    
10.56
¢
  
9.33
¢
  
9.09
¢
  
9.17
¢
  
8.69
¢
Passenger mile yield
    
13.46
¢
  
12.19
¢
  
12.17
¢
  
12.73
¢
  
12.26
¢
Operating cost per available seat mile
    
11.56
¢
  
11.60
¢
  
12.23
¢
  
10.82
¢
  
10.45
¢
Passenger load factor
    
78.5
%
  
76.5
%
  
74.7
%
  
73.3
%
  
71.9
%
Breakeven passenger load factor
    
78.2
%
  
87.0
%
  
92.6
%
  
77.8
%
  
79.3
%
Fuel gallons consumed (millions)
    
2,111
    
2,492
    
2,527
    
2,370
    
2,514
  
Average price per fuel gallon, net of
hedging activity
  
$
2.04
  
$
1.71
  
$
1.16
  
$
0.82
  
$
0.67
  
Full-time equivalent employees, end of period
    
51,300
    
55,600
    
69,150
    
70,600
    
75,100
  
(1)
Includes the operations under contract carrier agreements with unaffiliated regional air carriers:
-
Chautauqua Airlines, Inc. and SkyWest Airlines, Inc. for all periods presented,
-
Shuttle America Corporation for the year ended December 31, 2006 and from September 1 through December 31, 2005,
-
Atlantic Southeast Airlines for the year ended December 31, 2006 and from September 8 through December 31, 2005,
-
Freedom Airlines, Inc. for the year ended December 31, 2006 and from October 1, 2005 through December 31, 2005, and
-
Flyi, Inc (formerly Atlantic Coast Airlines) from January 1, 2002 through November 1, 2004.
 
(2)
Includes a $6.2 billion charge or $31.58 diluted EPS for reorganization costs; $310 million of noncash charges or $1.58 diluted EPS associated with certain accounting adjustments; and a $765 million income tax benefit or $3.89 diluted EPS (see Item 7).
 
(3)
Includes an $888 million charge or $5.49 diluted EPS for restructuring, asset writedowns, pension settlements and related items, net and an $884 million charge or $5.47 diluted EPS for reorganization costs (see Item 7).

19



(4)
Includes a $1.9 billion charge or $14.76 diluted EPS related to the impairment of intangible assets; a $1.2 billion charge or $9.51 diluted EPS for deferred income tax valuation; a $123 million gain, or $0.97 diluted EPS from the sale of investments; and a $41 million gain or $0.33 diluted EPS from restructuring, asset writedowns, pension settlements and related items, net (see Item 7).
 
(5)
Includes a $268 million charge ($169 million net of tax, or $1.37 diluted EPS) for restructuring, asset writedowns, pension settlements and related items, net; a $398 million gain ($251 million net of tax, or $2.03 diluted EPS) for reimbursements received under the Emergency Wartime Supplemental Appropriations Act; compensation; and a $304 million gain ($191 million net of tax, or $1.55 diluted EPS) for certain other income and expense items.
 
(6)
Includes a $439 million charge ($277 million net of tax, or $2.25 diluted EPS) for restructuring, asset writedowns, and related items, net; a $34 million gain ($22 million net of tax, or $0.17 diluted EPS) for compensation under the Air Transportation Safety and System Stabilization Act; and a $94 million charge ($59 million net of tax, or $0.47 diluted EPS) for certain other income and expense items.
 
(7)
Includes interest income.
 
(8)
Includes (losses) gains from the sale of investments and fuel hedging activity.
 
 
 
 
 
 
 
 
 
 

 
20

 
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
Background
 
On September 14, 2005 (the “Petition Date”), we and substantially all of our subsidiaries (collectively, the “Debtors”) filed voluntary petitions for reorganization under Chapter 11 of the United States Bankruptcy Code (the “Bankruptcy Code”), in the United States Bankruptcy Court for the Southern District of New York (the “Bankruptcy Court”). The reorganization cases are being jointly administered under the caption, “In re Delta Air Lines, Inc., et al., Case No. 05-17923-ASH.”
 
The Debtors are operating as “debtors-in-possession” under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code. In general, as debtors-in-possession, the Debtors are 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.
 
Under Section 365 and other relevant sections of the Bankruptcy Code, we may assume, assume and assign, or reject certain executory contracts and unexpired leases, including leases of real property, aircraft and aircraft engines, subject to the approval of the Bankruptcy Court and certain other conditions. Any description of an executory contract or unexpired lease in this Form 10-K, including where applicable our express termination rights or a quantification of our obligations, must be read in conjunction with, and is qualified by, any overriding rejection rights we have under the Bankruptcy Code.
 
On December 19, 2006, we filed with the Bankruptcy Court our Plan of Reorganization and a related Disclosure Statement, which contemplate that Delta will emerge from Chapter 11 as an independent airline. The Plan of Reorganization, as amended (the “Plan”), addresses various subjects with respect to the Debtors, including the resolution of pre-petition obligations, as well as the capital structure and corporate governance after exit from Chapter 11.
 
The Plan provides that most holders of allowed unsecured claims against the Debtors will receive common stock of reorganized Delta in satisfaction of their claims. Some holders of allowed unsecured claims against the Debtors would have the right to request cash proceeds of sales of common stock of reorganized Delta in lieu of such stock, and certain others would receive cash in satisfaction of their claims. Current holders of Delta’s equity interests would not receive any distributions, and their equity interests would be cancelled once the Plan becomes effective.
 
On February 7, 2007, the Bankruptcy Court approved the amended Disclosure Statement, and authorized the Debtors to begin soliciting votes from creditors to approve the Plan. The official committee of unsecured creditors (the “Creditors Committee”) and the two official retiree committees appointed in the Debtors’ Chapter 11 proceedings each support the Plan. To be accepted by holders of claims against the Debtors, the Plan must be approved by at least one-half in number and two-thirds in dollar amount of claims actually voting in each impaired class.
 
April 9, 2007 is the deadline for creditors to vote on the Plan. The Bankruptcy Court has scheduled a confirmation hearing on April 25, 2007 to consider approval of the Plan. If the Plan is approved by the creditors and confirmed by the Bankruptcy Court, the Debtors are planning to emerge from Chapter 11 shortly thereafter.
 
For additional information regarding the Debtors’ Chapter 11 proceedings, see Note 1 of the Notes to the Consolidated Financial Statements.
 
Overview of 2006 Results
 
In 2006, we recorded a net loss of $6.2 billion, which is primarily attributable to a $6.2 billion charge to reorganization items, net. Our 2006 financial results also include a $765 million income tax benefit associated with the reversal of certain income tax valuation allowances and a $310 million noncash charge associated with certain accounting adjustments. For additional information about these matters, see “Results of Operations - 2006 Compared to 2005” and “Basis of Presentation of Consolidated Financial Statements - Accounting Adjustments” below.
 

21

 
From an operational perspective, we reported operating income of $58 million in 2006, a $2.1 billion improvement in operating results compared to 2005 and our first annual operating profit since 2000. This improvement is due in large part to revenue increases and cost reductions we have achieved during our Chapter 11 reorganization from revenue and network productivity improvements, in-court restructuring initiatives and labor cost reductions.
 
During 2006, we also strengthened our liquidity. Cash and cash equivalents and short-term investments totaled $2.6 billion at December 31, 2006, compared to $2.0 billion at December 31, 2005.
 
Our Business Plan
 
Our reorganization in Chapter 11 has involved a fundamental transformation of our business. Shortly after the Petition Date, we outlined a business plan intended to make Delta a simpler, more efficient and more customer focused airline with an improved financial condition.
 
Restructuring Business Plan
 
As part of the Chapter 11 reorganization process, we were seeking $3.0 billion in annual financial improvements by the end of 2007. As of December 31, 2006, we reached that goal and these improvements are reflected in our Consolidated Financial Statements for 2006.  We expect we will achieve additional financial improvements in 2007. The $3.0 billion in annual financial improvements under our restructuring business plan is a result of (1) revenue and network productivity improvements, (2) in-court restructuring initiatives and (3) labor cost reductions. Some of our accomplishments in these areas are described below.
 
Revenue and Network Productivity Improvements. Key initiatives accomplished by the end of 2006 in the area of revenue and network productivity improvements include:
 
·
simplifying our fleet, including retiring four aircraft types;
 
·
right-sizing capacity to better meet customer demand, including utilizing smaller aircraft in domestic operations, which reduced domestic mainline capacity by 16% in 2006 compared to 2005;
 
·
growing our international presence by shifting wide-body aircraft from domestic to international operations, which increased international capacity by 21% in 2006 compared to 2005; and
 
·
increasing point-to-point flying and right-sizing and simplifying our domestic hubs to achieve a greater local traffic mix.
 
We strengthened our domestic hubs and are continuing to increase international service. For example, in 2006, we added more than 50 new daily flights to 20 cities in 18 countries in Europe and other countries such as India and Israel, capitalizing on our international gateways at Hartsfield-Jackson Atlanta International Airport, which is the world’s largest hub, and John F. Kennedy International Airport in New York. In addition, we offer more than 600 weekly flights to 58 destinations in Latin America and the Caribbean.
 
In-Court Restructuring Initiatives. Our business plan includes annual cost reductions through in-court initiatives such as debt restructurings, lease and facility restructurings, aircraft lease renegotiations and rejections, vendor contract renegotiations and retiree healthcare benefit modifications. Some of our accomplishments through the end of 2006 include:
 
·
restructuring our fleet by rejecting, returning or selling approximately 188 aircraft; and
 

22

 
·
making cost-saving progress on many facility agreements, including a review of approximately 55 locations. We have rejected or restructured leases at various airports, including Dallas, Orlando and Tampa.
 
Labor Cost Reductions. Our business plan includes annual benefits through reduced employment costs. During our Chapter 11 proceedings, by the end of 2006, we had:
 
·
reached an agreement with the Air Line Pilots Association, International (“ALPA”) under which we expect to receive approximately $280 million in average annual pilot labor cost savings between June 1, 2006 and December 31, 2009 from changes in pilot pay rates, benefits and work rules. This excludes savings we will achieve from the termination of the primary qualified defined benefit pension plan for pilots (“Pilot Plan”) and the related non-qualified plans;
 
·
implemented plans designed to achieve more than $600 million per year in non-pilot employment cost reductions. These cost reductions included charges to pay and benefits for non-pilot employees and staffing reductions;
 
·
reached agreements with committees representing our retired pilots and retired non-pilot employees that provide us with approximately $50 million in annual savings from changes to retiree healthcare benefit coverage;
 
·
advocated successfully for pension reform legislation, culminating in the Pension Protection Act. As a result, we intend to preserve our defined benefit pension plan for active and retired non-pilot employees;
 
·
reached agreement with the Pension Benefit Guaranty Corporation (the “PBGC”) regarding the termination of the Pilot Plan; and
 
·
implemented an enhanced profit-sharing plan that will allow employees to share in our future success.
 
Emergence Business Plan
 
As a result of our reorganization, we expect to emerge from bankruptcy as a competitive, standalone airline with a global network. We intend to be the airline of choice for customers by continuing to improve the customer experience on the ground and in the air. Our business strategy touches all facets of our operations - the destinations we will serve, the way we will serve our customers, and the fleet we will operate - in order to earn customer preference and continue to improve revenue performance. At the same time, we intend to remain focused on maintaining the competitive cost structure we have obtained from our reorganization to improve our financial position and pursue long-term stability as a standalone carrier.
 
Important aspects of our emergence business strategy include the following:
 
·
Leveraging Network Strength to Provide Expanded International Service. We will continue to focus on international growth. With our geographically-balanced hubs, we believe we are well-positioned for international growth from the U.S. to Europe and Latin America. In addition, we expect our hubs will help us increase service to Africa and Asia.
 
·
Maintaining Focus on Improving the Customer Experience. Our focus on safety will remain our top priority. We are also committed to continuous improvement throughout our operations to earn our customers’ preference. We have renewed our focus on improving our product and customer service through aircraft cabin and airport improvements.
 
·
Maximizing a Streamlined and Upgraded Fleet. We are supporting the ongoing changes to our network by bolstering our internationally-capable mainline fleet. We plan to pursue additional strategic improvements to our fleet by adding high-performance aircraft that will enable us to serve new destinations with appropriate capacity. We have announced plans to add 28 internationally capable aircraft scheduled for delivery in 2007 through 2009.
 

23

 
·
Capturing the Benefit of Competitive Cost Structure. Through initiatives undertaken during the Chapter 11 proceedings and previous productivity initiatives, we currently have one of the lowest mainline unit cost structures of any full service carrier. These efforts have resulted in reduced costs throughout our organization, including reductions in employment costs, retiree pension and healthcare costs and aircraft fleet costs. We recognize that, to succeed, we must maintain the competitive unit cost structure that we developed through our restructuring efforts.
 
·
Generating Cash Flow from Operations Necessary to Fund Capital Expenditures and Reduce Debt. Over an extended period following emergence from Chapter 11, we intend to balance long-term operating growth with overall credit improvement. At emergence from bankruptcy, we expect to have significantly reduced our total debt from pre-petition levels. Ongoing improvements to our financial condition are, however, necessary for us to withstand industry and economic volatility and to have favorable, consistent access to capital markets.
 
Unsolicited Merger Proposal
 
On November 15, 2006, US Airways Group, Inc. (“US Airways”) publicly announced an unsolicited proposal to engage in a merger transaction with us (the “US Airways Proposal”).
 
Under the original US Airways Proposal, the holders of unsecured claims in our bankruptcy cases would have received $4.0 billion in cash and 78.5 million shares of US Airways common stock. In addition, US Airways contemplated that our debtor-in-possession financing agreements and all other allowed secured claims and administrative claims in our bankruptcy cases would be assumed or paid in full. The US Airways Proposal was conditioned on satisfactory completion of a due diligence investigation on us, the Bankruptcy Court’s approval of a mutually agreeable plan of reorganization predicated upon a merger, regulatory approvals and approval by the shareholders of US Airways.
 
On December 15, 2006, our Board of Directors unanimously determined that the US Airways Proposal was inadequate, presented unacceptably high risk that it could not be consummated in the manner suggested by US Airways, was not in our best interests or in the best interests of our creditors, as well as our other stakeholders, and rejected the US Airways Proposal. The Board of Directors also determined that our interest and that of our creditors would be best served if we proceeded with filing the Plan, together with the Disclosure Statement, with the Bankruptcy Court. This decision by our Board of Directors was made after careful consideration and extensive review and consultation with its legal and financial advisors.
 
On January 10, 2007, US Airways increased its offer to merge with us and set forth a revised proposal (the “Revised US Airways Proposal”) under which the holders of our unsecured claims would have received $5.0 billion in cash and 89.5 million shares of US Airways common stock. US Airways said that the Revised US Airways Proposal would expire on February 1, 2007 unless, prior to that date, there was affirmative creditor support for the commencement of due diligence, the required filings under the Hart-Scott-Rodino Antitrust Improvements Act had been made and the hearing on the Disclosure Statement scheduled for February 7, 2007 had been adjourned.
 
On January 31, 2007, the Creditors Committee announced support for our standalone Plan of Reorganization. The Creditors Committee said that it had considered various factors, including the risks associated with, and the likelihood of a successful consummation of, the Revised US Airways Proposal and the Plan in reaching its conclusion in favor of the standalone Plan of Reorganization. Following this announcement, US Airways withdrew its proposal.
 
Basis of Presentation of Consolidated Financial Statements
 
Our Consolidated Financial Statements have been prepared on a going concern basis in accordance with accounting principles generally accepted in the United States of America (“GAAP”), including the provisions of American Institute of Certified Public Accountants’ Statement of Position 90-7, “Financial Reporting by Entities in Reorganization Under the Bankruptcy Code” (“SOP 90-7”). This contemplates the realization of assets and satisfaction of liabilities in the ordinary course of business. Accordingly, our Consolidated Financial Statements do not include any adjustments relating to the recoverability of assets and classification of liabilities that might be necessary should we be unable to continue as a going concern.

24

 
 
Due to our Chapter 11 proceedings, the realization of assets and satisfaction of liabilities, without substantial adjustments and/or changes in ownership, are subject to uncertainty.  Accordingly, there is substantial doubt about the current financial reporting entity’s ability to continue as a going concern. Upon emergence from bankruptcy, we expect to adopt fresh start reporting in accordance with SOP 90-7 which will result in our becoming a new entity for financial reporting purposes.  The adoption of fresh start reporting may have a material impact on the consolidated financial statements of the new financial reporting entity. 
 
The accompanying Consolidated Financial Statements do not reflect or provide for the consequences of the Chapter 11 proceedings. In particular, the financial statements do not show (1) as to assets, their realizable value on a liquidation basis or their availability to satisfy liabilities; (2) as to pre-petition liabilities, the amounts that may be allowed for claims or contingencies, or their status and priority; (3) as to shareowners’ equity accounts, the effect of any changes that may be made in our capitalization; or (4) as to operations, the effect of any changes that may be made in our business.
 
Sale of ASA
 
On September 7, 2005, we sold Atlantic Southeast Airlines, Inc. (“ASA”), our wholly owned subsidiary, to SkyWest, Inc. (“SkyWest”). After the sale, the revenue and expenses related to our contract carrier agreement with ASA are reported as regional affiliates passenger revenues and contract carrier arrangements, respectively, in our Consolidated Statements of Operations. Prior to the sale, expenses related to ASA were reported in the applicable expense line item in our Consolidated Statements of Operations. See Note 11 of the Notes to the Consolidated Financial Statement for additional information on the sale of ASA.
 
Accounting Adjustments
 
During 2006, we recorded certain out-of-period adjustments (“Accounting Adjustments”) in our Consolidated Financial Statements that are reflected in our results for the year ended December 31, 2006. These adjustments resulted in an aggregate net noncash charge approximating $310 million to our Consolidated Statement of Operations, consisting primarily of:
 
·
A $112 million charge in landing fees and other rents. This adjustment is associated primarily with our airport facility leases at John F. Kennedy International Airport in New York. It resulted from historical differences associated with recording escalating rent expense based on actual rent payments instead of on a straight-line basis over the lease term as required by Statement of Financial Accounting Standards (“SFAS”) No. 13, “Accounting for Leases” (“SFAS 13”).
 
·
A $108 million net charge related to the sale of mileage credits under our SkyMiles frequent flyer program. This includes an $83 million decrease in passenger revenues, a $106 million decrease in other, net operating revenues, and an $81 million decrease in other operating expenses. This net charge primarily resulted from the reconsideration of our position with respect to the timing of recognizing revenue associated with the sale of mileage credits that we expect will never be redeemed for travel.
 
·
A $90 million charge in salaries and related costs to adjust our accrual for postemployment healthcare benefits. This adjustment is due to healthcare payments applied to this accrual over several years, which should have been expensed as incurred.
 
We believe the Accounting Adjustments, considered individually and in the aggregate, are not material to our Consolidated Financial Statements for each of the years ended December 31, 2006, 2005 and 2004. In making this assessment, we considered qualitative and quantitative factors, including the substantial net loss in each of these three years, the noncash nature of the Accounting Adjustments, our substantial shareowners’ deficit at the end of each of these three years and our status as a debtor-in-possession under Chapter 11 of the Bankruptcy Code.
 

25

 
Results of Operations — 2006 Compared to 2005
 
Net Loss
 
Our consolidated net loss was $6.2 billion in 2006 and $3.8 billion in 2005. The net loss for 2006 includes (1) a $6.2 billion charge to reorganization items, net (see “Reorganization Items, Net” below”), (2) $310 million of noncash charges associated with certain accounting adjustments (see “Accounting Adjustments” above) and (3) a $765 million income tax benefit (see “Income Tax Benefit” below). As discussed below, the net loss for 2005 includes an $888 million charge to restructuring, asset writedowns, pension settlements and related items, net and an $884 million charge to reorganization items, net.
 
Operating Revenue
 
   
Year Ended
December 31,
  
Increase
(Decrease) 
  

% Increase
(Decrease)
  
(in millions)
  
2006
  
2005
      
Operating Revenue:
                          
Passenger:
                          
Mainline
  
$
11,773
  
$
11,399
  
$
374
    
3 
%
Regional affiliates
    
3,853
    
3,225
    
628
    
19 
%
Total passenger revenue
    
15,626
    
14,624
    
1,002
    
7 
%
Cargo
    
498
    
524
    
(26
)
  
(5)
%
Other, net
    
1,047
    
1,043
    
4
    
0 
%
Total operating revenue
  
$
17,171
  
$
16,191
  
$
980
    
6 
%

 
Operating revenue totaled $17.2 billion for the year ended December 31, 2006, a $980 million, or 6%, increase compared to the year ended December 31, 2005. Passenger revenue increased 7% while capacity decreased 6%. The increase in passenger revenue is due to a rise of 10% and 13% in passenger mile yield and passenger revenue per available seat mile (“Passenger RASM”), respectively, from fare increases that reflect strong passenger demand as well as actions we have taken since our Chapter 11 filing to achieve revenue and network productivity improvements. Passenger revenue and other, net revenue were negatively impacted by certain Accounting Adjustments discussed above. Passenger revenue of regional affiliates increased due to (1) a change in how we classify ASA’s revenues as a result of its sale to SkyWest and (2) new contract carrier agreements with Shuttle America Corporation (“Shuttle America”) and Freedom Airlines, Inc. (“Freedom”), effective September 1, 2005 and October 1, 2005, respectively.
 

   
Year Ended
  
Increase (Decrease)
  
 
 December 31, 2006
Year Ended December 31, 2006 vs. 2005 
  
   
Passenger
  
Passenger
          
Passenger
  
Load
  
(in millions)
  
Revenue
  
Revenue
  
RPMs
  
Yield
  
RASM
  
Factor
  
Passenger Revenue:
                          
North American passenger revenue
  
$
11,787
    
2%
 
  
(10)
%
  
14%
 
  
18%
 
  
2.8
  
International passenger revenue
    
3,719
    
24%
 
  
20 
%
  
3%
 
  
2%
 
  
(0.6
)
Charter revenue
    
120
    
2%
 
  
(21)
%
  
28%
 
  
12%
 
  
(5.3
)
Total passenger revenue
  
$
15,626
    
7%
 
  
(3)
%
  
10%
 
  
13%
 
  
2.0
  
 
North American Passenger Revenue. North American passenger revenue increased 2%, driven by a 14% increase in passenger mile yield and a 2.8 point increase in load factor which were partially offset by a 13% decline in capacity. Passenger RASM increased 18%. The decline in capacity, partially offset by the increase in load factor, resulted in a 10% decline in revenue passenger miles (“RPMs”), or traffic. The increases in passenger revenue, passenger mile yield and Passenger RASM reflect (1) fare increases implemented as part of the improved industry revenue environment and (2) the positive impact of our strategic initiatives, including right-sizing capacity to better meet customer demand and increasing point-to-point flying and simplifying our domestic hubs to achieve a greater local traffic mix.
 

26

 
International Passenger Revenue. International passenger revenue increased 24%, generated by a 20% increase in RPMs from a 21% increase in capacity. The passenger mile yield and Passenger RASM increased 3% and 2%, respectively. These results reflect increases in service to international destinations, primarily in the Atlantic and Latin America markets, from the restructuring of our route network.
 
Operating Expense

   
Year Ended
December 31,
  
Increase
  
% Increase
  
(in millions)
  
2006
  
2005
  
(Decrease)
  
(Decrease)
  
Operating Expense:
                  
Aircraft fuel
  
$
4,319
  
$
4,271
  
$
48
    
1
%
Salaries and related costs
    
4,128
    
5,058
    
(930
)
  
(18
)%
Contract carrier arrangements
    
2,656
    
1,318
    
1,338
    
102
%
Depreciation and amortization
    
1,276
    
1,273
    
3
    
0
%
Contracted services
    
1,083
    
1,096
    
(13
)
  
(1
)%
Passenger commissions and other selling expenses
    
888
    
948
    
(60
)
  
(6
)%
Landing fees and other rents
    
865
    
863
    
2
    
0
%
Aircraft maintenance materials and outside repairs
    
735
    
776
    
(41
)
  
(5
)%
Passenger service
    
328
    
345
    
(17
)
  
(5
)%
Aircraft rent
    
316
    
541
    
(225
)
  
(42
)%
Restructuring, asset writedowns, pension settlements and related items, net
    
13
    
888
    
(875
)
  
(99
)%
Other
    
506
    
815
    
(309
)
  
(38
)%
Total operating expense
  
$
17,113
  
$
18,192
  
$
(1,079
)
  
(6
)%

 
Operating expense was $17.1 billion for the year ended December 31, 2006, a $1.1 billion, or 6%, decrease compared to the year ended December 31, 2005. As discussed below, the decrease in operating expense was primarily due to a decrease in 2006 in (1) salaries and related costs, (2) charges related to restructuring, asset writedowns, pension settlements and related items, net, (3) aircraft rent and (4) other expenses. These decreases were partially offset by (1) higher contract carrier arrangements expense primarily due to a change in how we classify ASA expense as a result of our sale of ASA on September 7, 2005, (2) certain Accounting Adjustments discussed above and (3) an increase in aircraft fuel prices.
 
Operating capacity decreased 6% to 148 billion available seat miles primarily due to the reduction of our aircraft fleet as part of our business plan initiatives. Operating cost per available seat mile decreased less than 1% to 11.56¢, because the decrease in total operating expense discussed above was offset by the reduction in operating capacity.
 
Aircraft fuel. Aircraft fuel expense increased due to higher fuel prices despite reduced consumption. Our average fuel price per gallon increased 19% to $2.04. Fuel gallons consumed decreased 15% due to a reduction in Mainline capacity and our sale of ASA. As a result of this sale, ASA’s fuel gallons are no longer part of our fuel gallons consumed. Aircraft fuel expense includes fuel hedge losses of $108 million in 2006.
 
Salaries and related costs. The decrease in salaries and related costs primarily reflects a 12% decline due to lower Mainline headcount and our sale of ASA, and a 9% decrease from salary rate and benefit cost reductions for our pilot and non-pilot employees, partially offset by certain Accounting Adjustments discussed above.
 
Contract carrier arrangements. Contract carrier arrangements expense increased primarily due to (1) a 73% increase from the change in how we classify ASA’s expenses as a result of its sale to SkyWest and (2) an 18% increase from new contract carrier agreements with Shuttle America and Freedom.
 
Landing fees and other rents. Landing fees and other rents remained relatively constant because (1) a 4% decrease from the change in how we classify ASA’s expenses as a result of its sale to SkyWest and (2) a net 4% decrease due to our shifting of capacity from domestic to international, were offset by certain Accounting Adjustments discussed above.
 

27

 
Aircraft rent. The decline in aircraft rent expense is primarily due to a 29% decrease from the renegotiation and rejection of certain leases in connection with our restructuring efforts and an 8% decrease from the change in how we classify ASA’s expenses as a result of its sale to SkyWest.
 
Restructuring, asset writedowns, pension settlements and related items, net. For 2006, restructuring, asset writedowns, pension settlements and related items, net totaled a $13 million charge, primarily due to the following:
 
·
Workforce Reduction. A $29 million charge related to our decision in 2005 to reduce staffing by approximately 7,000 to 9,000 jobs by December 2007, which has been substantially completed. This charge was partially offset by a $21 million reduction in accruals associated with prior year workforce reduction programs.
 
For 2005, restructuring, asset writedowns, pension settlements and related items, net totaled an $888 million charge consisting of the following:
 
·
Pension curtailment charge. A $447 million curtailment charge related to the Pilot and Non-pilot Plans. This charge relates to the freeze of service accruals under the Pilot Plan effective December 31, 2004, and the impact of the planned reduction of 6,000 to 7,000 jobs announced in November 2004 on the Non-pilot Plan (see Note 10 of the Notes to the Consolidated Financial Statements).
 
·
Pension settlements. $388 million in settlement charges primarily related to the Pilot Plan due to a significant increase in pilot retirements and lump sum distributions from plan assets (see Note 10 of the Notes to the Consolidated Financial Statements).
     
·
Workforce reduction. A $46 million charge related to our decision in 2005 to reduce staffing by approximately 7,000 to 9,000 jobs by December 2007, which has been substantially completed. This charge was offset by a net $3 million reduction in accruals associated with prior year workforce reduction programs.
 
·
Asset charges. A $10 million charge related to the removal from service of six B-737-200 aircraft prior to their lease expiration dates.
 
Other. The decrease in other operating expense primarily reflects (1) a 12% decrease due to an adjustment related to certain nonincome tax reserves, (2) a 10% decrease from certain Accounting Adjustments discussed above and (3) an 8% decrease related to the change in how we classify ASA’s expenses as a result of its sale to SkyWest.
 
Operating Income (Loss) and Operating Margin
 
We reported operating income of $58 million for the year ended December 31, 2006, compared to an operating loss of $2.0 billion for the year ended December 31, 2005. Operating margin, which is the ratio of operating income (loss) to operating revenues, was less than 1% and (12%) for 2006 and 2005, respectively.
 
Other (Expense) Income
 
Other expense, net for 2006 was $820 million, compared to $974 million for 2005. This change is substantially attributable to a 16%, or $162 million, decrease in interest expense which was partially offset by a $19 million increase in miscellaneous, net expense primarily associated with our fuel hedge positions.
 
The reduction in interest expense is primarily attributable to a $206 million decrease due to the accounting treatment of certain interest charges under our Chapter 11 proceedings in accordance with SOP 90-7 (see Note 2 of the Notes to the Consolidated Financial Statements). The decrease in interest expense was partially offset by a $97 million increase from a higher level of debt outstanding and higher interest rates.
 

28

 
The increase in miscellaneous, net expense is primarily due to charges related to the ineffective portion of our fuel hedge positions accounted for in accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” For additional information about our fuel hedge positions, see Note 2 of the Notes to the Consolidated Financial Statements.
 
Reorganization Items, Net
 
Reorganization items, net totaled a $6.2 billion charge for 2006, primarily consisting of the following:
 
·
Pilot pension termination. $2.2 billion and $801 million allowed general, unsecured pre-petition claims in connection with our settlement agreements with the PBGC and a group representing retired pilots, respectively. Charges for these claims were offset by $1.3 billion in settlement gains associated with the derecognition of previously recorded Pilot Plan and pilot non-qualified plan obligations upon each plan’s termination. For additional information regarding these settlement agreements and the termination of these plans, see Note 10 of the Notes to the Consolidated Financial Statements.
 
·
Pilot collective bargaining agreement. A $2.1 billion allowed general, unsecured pre-petition claim in connection with our comprehensive agreement with ALPA reducing our pilot labor costs. For additional information regarding this agreement, see Note 1 of the Notes to the Consolidated Financial Statements.
 
·
Aircraft financing renegotiations and rejections. $1.7 billion of estimated claims associated with restructuring the financing arrangements for 188 aircraft and the rejection of 16 aircraft leases.
 
·
Retiree healthcare benefit claims. $539 million of allowed general, unsecured pre-petition claims in connection with agreements that we reached with committees representing both pilot and non-pilot retired employees reducing their postretirement healthcare benefits. For additional information regarding these agreements, see Note 10 of the Notes to the Consolidated Financial Statements.
 
Reorganization items, net totaled an $884 million charge for 2005, primarily consisting of the following:
 
·
Aircraft financing renegotiations, rejections and repossessions. A $611 million charge for estimated claims associated with restructuring the financing arrangements for seven aircraft, the rejection of 50 aircraft leases and the repossession of 15 aircraft.
 
·
Debt issuance and discount costs. A $163 million charge associated with the write-off of certain debt issuance costs and discounts in conjunction with the valuation of our unsecured and undersecured debt.
 
·
Facility leases. An $88 million charge for estimated claims in connection with the rejection of certain unexpired facility leases and the related bond obligations.
 
Income Tax Benefit
 
For 2006, we recorded an income tax benefit totaling $765 million. The amount primarily reflects a decrease to our deferred tax asset valuation allowances from the reversal of accrued pension liabilities associated with the derecognition of previously recorded Pilot Plan and pilot non-qualified plan obligations upon each plan’s termination.
 
For 2005, we recorded an income tax benefit totaling $41 million. The amount is primarily the result of a $1.6 billion adjustment to our deferred tax asset valuation allowance due to increases in the deferred tax asset related to our additional minimum pension liability and net operating loss carryforwards.
 
For additional information about the income tax valuation allowance, see Note 9 of the Notes to the Consolidated Financial Statements.
 

29

 
Results of Operations — 2005 Compared to 2004
 
Net Loss
 
Our consolidated net loss was $3.8 billion in 2005 and $5.2 billion in 2004. The net loss for 2005 includes an $888 million charge to restructuring, asset writedowns, pension settlements and related items, net (see “Restructuring, asset writedowns, pension settlements and related items, net” below) and an $884 million charge to reorganization items, net (see “Reorganization Items, Net” above). As discussed below, the net loss for 2004 includes a $1.9 billion impairment of intangible assets related to the write-off of goodwill associated with ASA and Comair and a $1.2 billion income tax provision primarily related to recording a valuation allowance for our deferred income tax assets.
 
Operating Revenue
 
   
 Year Ended
December 31,
  
Increase
  
% Increase
  
(in millions)
  
2005
  
2004
  
(Decrease)
  
(Decrease)
  
Operating Revenue:
                  
Passenger:
                          
Mainline
  
$
11,399
  
$
10,880
  
$
519
    
5
%
Regional affiliates
    
3,225
    
2,910
    
315
    
11
%
Total passenger revenue
    
14,624
    
13,790
    
834
    
6
%
Cargo
    
524
    
500
    
24
    
5
%
Other, net
    
1,043
    
945
    
98
    
10
%
Total operating revenue
  
$
16,191
  
$
15,235
  
$
956
    
6
%
 
Operating revenue totaled $16.2 billion for the year ended December 31, 2005, a $956 million, or 6%, increase compared to the year ended December 31, 2004. Passenger revenue increased 6% on a 3% increase in capacity. The increase in passenger revenue reflects a 6% rise in RPMs and a flat passenger mile yield. The relatively constant passenger mile yield reflects our lack of pricing power due to the continuing growth of low-cost carriers with which we compete in most of our domestic markets, high industry capacity and price sensitivity by our customers, enhanced by the availability of airline fare information on the Internet. During the fourth quarter of 2005, passenger mile yield increased 8% compared to the fourth quarter of 2004, which reflects a general improvement in the overall business environment and the structural changes we made to strengthen our route network since our Chapter 11 filing.

 
Year Ended
December 31, 2005
Increase (Decrease)
Year Ended December 31, 2005 vs. 2004
 
 
 
Passenger
 
Passenger
 
 
 
 
 
Passenger
 
Load
 
(in millions)
 
Revenue
 
Revenue
 
RPMs
 
Yield
 
RASM
 
Factor
  
Passenger Revenue:
                                      
North American passenger revenue
  
$
11,503
    
4 
%
  
4 
%
  
—
    
3
%
  
2.2
  
International passenger revenue
    
3,003
    
17 
%
  
13 
%
  
4
%
  
4
%
  
—
  
Charter revenue
    
118
    
(2)
%
  
(25)
%
  
30
%
  
20
%
  
(3.6
)
Total passenger revenue
  
$
14,624
    
6 
%
  
6 
%
  
—
    
3
%
  
1.8
  
 
North American Passenger Revenue. North American passenger revenue increased 4% due to increased traffic in 2005. In the first half of 2005 yields averaged 5% below the first half of 2004, while in the second half of 2005 yields averaged 5% higher than the second half of 2004.
 
International Passenger Revenue. Higher international passenger revenue reflects a capacity increase of 13%. RPMs also increased 13%, while passenger mile yield increased 4%. Passenger RASM increased 4% to 8.45¢ and load factor remained consistent with the prior year. These increases reflect increases in service to international destinations, primarily in transatlantic markets.
 

30

 
Operating Expense
 
  
 
Year Ended
December 31, 
 
Increase
 
% Increase
 
(in millions)
 
2005
 
2004
 
(Decrease)
 
(Decrease)
 
Operating Expense:
                          
Salaries and related costs
  
$
5,058
  
$
6,338
  
$
(1,280
)
  
(20)
%
Aircraft fuel
    
4,271
    
2,924
    
1,347
    
46 
%
Depreciation and amortization
    
1,273
    
1,244
    
29
    
2 
%
Contracted services
    
1,096
    
999
    
97
    
10 
%
Contract carrier arrangements
    
1,318
    
932
    
386
    
41 
%
Landing fees and other rents
    
863
    
875
    
(12
)
  
(1)
%
Aircraft maintenance materials and outside repairs
    
776
    
681
    
95
    
14 
 %
Aircraft rent
    
541
    
716
    
(175
)
  
(24)
%
Passenger commissions and other selling expenses
    
948
    
939
    
9
    
1 
%
Passenger service
    
345
    
349
    
(4
)
  
(1)
%
Impairment of intangible assets
    
—
    
1,875
    
(1,875
)
  
NM 
 
Restructuring, asset writedowns, pension settlements and related items, net
    
888
    
(41
)
  
929
    
NM 
 
Other
    
815
    
712
    
103
    
14 
%
Total operating expense
  
$
18,192
  
$
18,543
  
$
(351
)
  
(2)
%
 
Operating expense for 2005 was $18.2 billion, which includes an $888 million charge for restructuring, asset writedowns, pension settlements and related items, net. Operating expense for 2004 totaled $18.5 billion, which includes a $1.9 billion impairment of intangible assets related to the write-off of goodwill associated with ASA and Comair. For additional information about this charge, see Note 5 of the Notes to the Consolidated Financial Statements.
 
Operating capacity for 2005 increased 3% to 157 billion available seat miles, primarily due to operational efficiencies from the redesign of our Atlanta hub from a banked to a continuous hub, which allowed us to increase system-wide capacity with no additional Mainline aircraft. Operating cost per available seat mile decreased 5% to 11.60¢.
 
Salaries and related costs. The decrease in salaries and related costs includes a 17% decrease from salary rate reductions for our pilot and non-pilot employees and a 7% decline due to lower headcount.
 
Aircraft fuel. Aircraft fuel expense increased $1.3 billion, or 46%, driven by higher fuel prices, which were slightly offset by a reduction in total gallons consumed due to our sale of ASA to SkyWest on September 7, 2005. Our average fuel price per gallon increased 47% to $1.71 while total gallons consumed decreased 1%. Fare increases implemented during 2005 in response to rising aircraft fuel prices offset only a small portion of those cost increases. During 2005, we had no significant hedges or contractual arrangements to reduce our fuel costs below market levels. Our fuel expense is shown net of fuel hedge gains of $105 million in 2004.
 
Contract carrier arrangements. Contract carrier arrangements expense increased primarily due to (1) a change in how we account for ASA’s expenses as a result of its sale to SkyWest and (2) new contract carrier agreements with Shuttle America and Freedom. These increases were partially offset by the termination of our contract carrier arrangement with Flyi, Inc. in 2004.
 
Aircraft rent. The decrease in aircraft rent expense largely reflects a 21% decrease due to our lease restructuring in the December 2004 quarter, which resulted in the reclassification of certain aircraft leases from operating to capital. As discussed below, this reclassification increased our interest expense. The reduction in aircraft rent expense also reflects our rejection of the leases for 50 aircraft, the renegotiation of the leases for seven aircraft and the repossession of 15 aircraft in connection with our Chapter 11 proceedings during 2005.

31

 
Restructuring, asset writedowns, pension settlements and related items, net. For 2005, restructuring, asset writedowns, pension settlements and related items, net totaled an $888 million charge consisting of the following:
 
·
Pension Curtailment Charge. A $447 million curtailment charge related to our Pilot Plan and Non-pilot Plan. This charge relates to the freeze of service accruals under the Pilot Plan effective December 31, 2004 and the impact of the planned reduction of 6,000 to 7,000 jobs announced in November 2004 on the Non-pilot Plan (see Note 10 of the Notes to the Consolidated Financial Statements).
 
·
Pension Settlements. $388 million in settlement charges primarily related to the Pilot Plan due to a significant increase in pilot retirements and lump sum distributions from plan assets (see Note 10 of the Notes to the Consolidated Financial Statements).
 
·
Workforce Reduction. A $46 million charge related to our decision in 2005 to reduce staffing by approximately 7,000 to 9,000 jobs by December 2007, which has been substantially completed. This charge was offset by a net $3 million reduction in accruals associated with prior year workforce reduction programs.
 
·
Asset Charges. A $10 million charge related to the removal from service of six B-737-200 aircraft prior to their lease expiration dates.
 
For 2004, restructuring, asset writedowns, pension settlements and related items, net totaled a $41 million gain consisting of the following:
 
·
Elimination of Retiree Healthcare Subsidy. A $527 million gain related to our decision to eliminate the company provided healthcare coverage subsidy for employees who retire after January 1, 2006 (see Note 10 of the Notes to the Consolidated Financial Statements).
 
·
Pension Settlements. $251 million in settlement charges related to the Pilot Plan due to a significant increase in pilot retirements and lump sum distribution from plan assets (see Note 10 of the Notes to the Consolidated Financial Statements).
 
·
Workforce Reduction. A $194 million charge related to our decision to reduce staffing by approximately 6,000 to 7,000 jobs by December 2005. This charge included charges of $152 million related to special termination benefits and $42 million related to employee severance (see Note 10 of the Notes to the Consolidated Financial Statements).
 
·
Asset Charges. A $41 million aircraft impairment charge related to our agreement to sell eight owned MD-11 aircraft. In October 2004, we sold these aircraft and related inventory to a third party for $227 million.
 
Other. The increase in other operating expense primarily reflects a 13% rise due to the increase of incremental costs associated with our SkyMiles frequent flyer program and a 5% increase from higher fuel taxes. These increases were partially offset by the impact of our sale of ASA. For additional information regarding our SkyMiles frequent flyer program, see Note 2 of the Notes to the Consolidated Financial Statements.
 
Other (Expense) Income
 
Other expenses, net for 2005 increased 42% to $974 million, compared to $684 million for 2004. This change is substantially attributable to a 25%, or $208 million, increase in interest expense in 2005 and a gain from sale of investments which we recognized in 2004.
 
Interest expense increased primarily due to a 31% increase from higher levels of debt outstanding and higher interest rates as well as a 10% rise due to additional interest related to the reclassification of certain aircraft leases from operating leases to capital leases as a result of renegotiations during the December 2004 quarter (see discussion of aircraft rent expense above). These increases were offset by a 15% decrease due to the accounting treatment of certain interest charges under our Chapter 11 proceedings in accordance with SOP 90-7.

32

 
Gain from sale of investments was $123 million for 2004 primarily due to the sale of our remaining equity interest in Orbitz, Inc. For additional information about this sale, see Note 2 of the Notes to the Consolidated Financial Statements.
 
Reorganization Items, Net
 
Reorganization items, net totaled an $884 million charge for 2005.  See “Results of Operations - 2006 Compared to 2005” for additional information on these items.
 
Income Tax Benefit (Provision)
 
In 2004, we recorded a valuation allowance on our net deferred tax assets because we determined it was more likely than not that we would not be able to realize the benefit of those tax assets. In 2005, we increased our valuation allowance by approximately $1.6 billion. For additional information about the income tax valuation allowance, see Note 9 of the Notes to the Consolidated Financial Statements.
 
Financial Condition and Liquidity
 
During our Chapter 11 proceedings, we entered into a number of agreements related to financing arrangements and settlements of pre-petition claims. For a description of the arrangements that had an effect on our liquidity, see Notes 6 and 8 of the Notes to the Consolidated Financial Statements.
 
On January 30, 2007, we secured commitments for a $2.5 billion exit financing facility (“Exit Facility”) to be used in connection with our plan to exit bankruptcy in the second quarter of 2007. For further information about the Exit Facility, see Note 6 of the Notes to the Consolidated Financial Statements.
 
We have obligations under our agreement with ALPA and the PBGC Settlement Agreement to issue an aggregate of $875 million of new unsecured notes. For further information about our agreement with ALPA and the PBGC Settlement Agreement, see Notes 1 and 10 of the Notes to the Consolidated Financial Statements.
 
Our Amended and Restated DIP Credit Facility and the Amex Post-Petition Facility include certain affirmative, negative and financial covenants. We were in compliance with these covenant requirements at December 31, 2006 and 2005.
 
Sources and Uses of Cash
 
We expect to meet our cash needs for 2007 from cash flows from operations, cash and cash equivalents and short-term investments and financing arrangements. As discussed in Note 6 of the Notes to the Consolidated Financial Statements, we have obtained commitments for a $2.5 billion Exit Facility in connection with our plan to exit bankruptcy in the second quarter of 2007.
 
Our cash and cash equivalents and short-term investments were $2.6 billion at December 31, 2006, compared to $2.0 billion at December 31, 2005. Restricted cash totaled $802 million and $928 million at December 31, 2006 and 2005, respectively. Cash and cash equivalents at December 31, 2006 and 2005 include $156 million and $155 million, respectively, which is set aside for the payment of certain operational taxes and fees to various governmental authorities.
 
Cash flows from operating activities
 
Cash provided by operating activities was $993 million for the year ended December 31, 2006, an increase of $1.3 billion and $2.0 billion compared to the years ended December 31, 2005 and 2004, respectively. Cash provided by operating activities in 2006 reflects an increase of $401 million and $2.0 billion in working capital compared to 2005 and 2004, respectively. These increases are primarily a result of revenue and network productivity improvements, in-court restructuring initiatives and labor cost reductions implemented in connection with our restructuring business plan during our Chapter 11 proceedings and an improved revenue environment. For additional information regarding our restructuring business plan and operational performance, see “Our Business Plan,”  “Results of Operations - 2006 Compared to 2005,” and “Results of Operations — 2005 Compared to 2004,” respectively.

33

Our 2006 cash flows from operating activities also includes a $116 million decrease in our restricted cash balance primarily due to a release of cash from restricted to operating as a result of agreements we reached with certain vendors.  In 2005, our restricted cash balance increased significantly primarily due to cash holdbacks associated with our Visa/MasterCard credit card processing agreement.  For the year ended December 31, 2006, we classified changes to our restricted cash balances primarily associated with credit card holdbacks to cash flows from operating activities to better reflect the nature of restricted cash activities.  Prior to 2006, we presented such changes as an investing activity.  For additional information regarding this reclassification, see Note 2 of the Notes to the Consolidated Financial Statements. 
 
Cash flows from investing activities
 
Cash used in investing activities totaled $361 million for the year ended December 31, 2006, compared to cash provided by investing activities of $22 million for the year ended December 31, 2005. This change reflects a $401 million decrease in cash used for the purchase of flight and ground equipment in 2006.  Our 2005 cash flows from investing activities also includes $842 million in proceeds from our sale of ASA and certain flight equipment.
 
Cash provided by investing activities totaled $22 million for the year ended December 31, 2005, compared to cash used in investing activities of  $320 million for the year ended December 31, 2004. This change reflects $570 million of flight equipment additions in 2005, including $417 million we paid to purchase 11 B-737-800 aircraft that we sold to a third party immediately after these aircraft were delivered to us by the manufacturer. Our 2005 cash flows from investing activities also include $842 million in proceeds from our sale of ASA and certain flight equipment discussed above.
 
Cash flows from financing activities
 
Cash used in financing activities totaled $606 million for the year ended December 31, 2006, compared to cash provided by financing activities of $830 million for the year ended December 31, 2005. This change is primarily due to the net proceeds we received under our Secured Super-Priority Debtor-In-Possession Credit Agreement (the “DIP Credit Facility”) shortly after our Chapter 11 filing in 2005. As a result of our Chapter 11 filing, we ceased making payments on our unsecured debt. For additional information regarding our Chapter 11 proceedings and long-term debt, see Notes 1 and 6, respectively, of the Notes to the Consolidated Financial Statements.
 
Cash provided by financing activities totaled $830 million and $636 million for the years ended December 31, 2005 and 2004, respectively. This change is primarily attributable to the net proceeds we received under our DIP Credit Facility as discussed above compared to the net proceeds we received in 2004 in connection with newly entered or amended financing arrangements in the aggregate amount of $1.8 billion and the issuance of 2⅞% Convertible Senior Notes due 2024 in the amount of $325 million. As discussed above, after filing for bankruptcy, we ceased making payments on our unsecured debt.
 
Contractual Obligations
 
The following table summarizes our contractual obligations as of December 31, 2006 that relate to debt; operating leases; aircraft order commitments; capital leases; contract carrier obligations; other material, noncancelable purchase obligations; and other liabilities. We are in the process of evaluating our executory contracts in order to determine which contracts will be assumed in our Chapter 11 proceedings. Therefore, obligations as currently quantified in the table below and in the text immediately following the footnotes to the table will continue to change. The table below does not include contracts that we have successfully rejected through our Chapter 11 proceedings. The table also does not include commitments that are contingent on events or other factors that are uncertain or unknown at this time, some of which are discussed in footnotes to this table and in the text immediately following the footnotes.

34

 

 

   
Contractual Obligations by Year
  
(in millions)
  
 
2007
  
 
2008
  
 
2009
  
 
2010
  
 
2011
  
After
2011
  
 
Total
  
Long-term debt, not including liabilities subject to compromise(1)(2)
  
$
1,466
  
$
2,152
  
$
392
  
$
1,300
  
$
1,307
  
$
1,071
  
$
7,688
  
Long-term debt classified as liabilities subject to compromise(1)
    
453
    
640
    
868
    
177
    
103
    
2,704
    
4,945
  
Operating lease payments(3)(4)
    
1,257
    
1,182
    
977
    
915
    
792
    
4,915
    
10,038
  
Aircraft order commitments(5)
    
523
    
823
    
960
    
712
    
—
    
—
    
3,018
  
Capital lease obligations not subject to compromise(3)(6)
    
104
    
100
    
99
    
99
    
94
    
94
    
590
  
Capital lease obligations subject to compromise(3)(6)
    
6
    
3
    
—
    
—
    
—
    
—
    
9
  
Contract carrier obligations(7)
    
2,167
    
2,272
    
2,344
    
2,281
    
2,242
    
17,930
    
29,236
  
Other purchase obligations(8)
    
212
    
51
    
46
    
28
    
25
    
5
    
367
  
Other liabilities(9)
    
45
    
—
    
—
    
—
    
—
    
—
    
45
  
Total(10)
  
$
6,233
  
$
7,223
  
$
5,686
  
$
5,512
  
$
4,563
  
$
26,719
  
$
55,936
  
 
(1)
These amounts are included in our Consolidated Balance Sheets. Interest on long-term debt is not included in the table above. For additional information about our debt and related matters, see Note 6 of the Notes to the Consolidated Financial Statements.
 
(2)
Under our comprehensive agreement with ALPA reducing our pilot labor costs, we are required to issue for the benefit of pilots, no later than 120 days following our emergence from bankruptcy, senior unsecured notes (“Pilot Notes”) with an aggregate principal amount of $650 million, a term of up to 15 years and an annual interest rate calculated to ensure the Pilot Notes trade at par on the issuance date. The Pilot Notes are pre-payable at any time at our option, and we may replace all or a portion of the principal amount of the Pilot Notes with cash prior to their issuance.
 
Under our settlement agreement with the PBGC relating to the termination of the Pilot Plan, we are required to issue to the PBGC, no later than seven business days after our emergence from bankruptcy, senior unsecured notes (“PBGC Notes”) with an aggregate principal amount of $225 million, a term of up to 15 years and an annual interest rate calculated to ensure the PBGC Notes trade at par on the issuance date. We may replace all or a portion of the principal amount of the PBGC Notes with cash prior to their issuance, which we are required to do under certain circumstances.
 
The Pilot Notes and the PBGC Notes are not included in the table above.
 
(3)
Although we are not generally permitted to make any payments on pre-petition obligations as a result of our Chapter 11 proceedings, we have reached agreements with certain aircraft financing parties under Section 1110 of the Bankruptcy Code and received approval from the Bankruptcy Court to continue to make payments on certain aircraft debt and lease obligations. The amounts included remain subject to change until a plan of reorganization is approved and we emerge from Chapter 11.
 
(4)
This amount includes our noncancelable operating leases and our lease payments related to aircraft under our contract carrier agreements with ASA, SkyWest Airlines, Freedom and Shuttle America. Emerging Issues Task Force 01-08, “Determining Whether an Arrangement Contains a Lease”, provides guidance on whether an arrangement contains a lease within the scope of SFAS 13 and is applicable to agreements entered into or modified after June 30, 2003. Because we entered into our contract carrier agreement with Chautauqua prior to June 30, 2003, payments totaling $183 million related to Chautauqua aircraft are not included in the table. See Note 7 of the Notes to the Consolidated Financial Statements for further information.
 
We have signed a letter of intent with a third party to lease 10 B-757-200ER aircraft. These aircraft will be delivered from July 2007 through November 2007 and will be leased for seven years and three months each. We have also signed a letter of intent with a separate third party to lease three B-757-200ER aircraft which would be delivered to us in the first quarter of 2008, or such earlier dates as the parties may agree and will be leased for five years. These aircraft leases are not included in the table above.
 
(5)
Our aircraft order commitments as of December 31, 2006 consist of firm orders to purchase five B-777-200LR aircraft, 10 B-737-700 aircraft and 50 B-737-800 aircraft, including 48 B-737-800 aircraft, which we have entered into definitive agreements to sell to third parties immediately following delivery of these aircraft to us by the manufacturer starting in 2007. The impact of these sales on the future commitments above would be a total reduction of approximately $2.0 billion during the period 2007 through 2010.
 

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On January 31, 2007, we entered into an agreement to acquire 30 CRJ-900 aircraft from Bombardier Inc., with options to acquire an additional 30 CRJ-900 aircraft. The aircraft will be delivered in two-class, 76 seat configuration between September 2007 and February 2010. We expect these aircraft will be operated by regional air carriers under contract carrier agreements, and the purchase agreement permits assignment of the aircraft and related support provisions to other carriers. We have available to us long-term, secured financing commitments to fund a substantial portion of the aircraft purchase price for the 30 firm orders. These aircraft order commitments are not included in the table above.
 
(6)
Interest payments related to capital lease obligations are included in the table. The present value of these obligations, excluding interest, is included on our Consolidated Balance Sheets. For additional information about our capital lease obligations, see Note 7 of the Notes to the Consolidated Financial Statements.
 
(7)
This amount represents our minimum fixed obligation under our contract carrier agreements with Chautauqua, Shuttle America, ASA, SkyWest Airlines, and Freedom (excluding contract carrier lease payments accounted for as operating leases, (see footnote (4) above)). For additional information regarding our contract carrier agreements, see Note 8 of the Notes to the Consolidated Financial Statements.
 
(8)
Includes purchase obligations pursuant to which we are required to make minimum payments for goods and services, including but not limited to insurance, outsourced human resource services, marketing, maintenance, obligations related to Comair, technology, and other third party services and products. For additional information about other commitments and contingencies, see Note 8 of the Notes to the Consolidated Financial Statements.
 
(9)
Represents other liabilities on our Consolidated Balance Sheets for which we are obligated to make future payments related to medical benefit costs incurred but not yet paid. These liabilities are not included in any other line item on this table.
 
(10)
In addition to the contractual obligations included in the table, we have significant cash obligations that are not included in the table. For example, we will pay wages required under collective bargaining agreements; fund pension plans (as discussed below); purchase capacity under contract carrier arrangements (as discussed below); and pay credit card processing fees and fees for other goods and services, including those related to fuel, maintenance and commissions. While we are parties to legally binding contracts regarding these goods and services, the actual commitment is contingent on certain factors such as volume and/or variable rates that are uncertain or unknown at this time. Therefore, these items are not included in the table. In addition, purchase orders made in the ordinary course of business are excluded from the table and any amounts which we are liable for under the purchase orders are included in current liabilities on our Consolidated Balance Sheets.

The following items are not included in the table above:
 
Pension Plans. We sponsor qualified defined contribution and defined benefit pension plans for eligible employees and retirees. Our funding obligations for these plans are governed by the Employee Retirement Income Security Act of 1974 (“ERISA”). Estimates of pension plan funding requirements can vary materially from actual funding requirements because the estimates are based on various assumptions, including those described below.
 
Defined Contribution Pension Plans (“DC Plans”). During the year ended December 31, 2006, we contributed approximately $110 million to our DC Plans. Estimates of future funding requirements under our DC Plans are not reasonably estimable at this time.  Under our comprehensive agreement with ALPA reducing our pilot labor costs, ALPA received, among other things, a $2.1 billion allowed general, unsecured pre-petition claim in our bankruptcy proceedings. The proceeds of this claim will be distributed to pilot accounts under the Delta Family-Care Savings Plan to the extent permitted by the Internal Revenue Code, thereby reducing the amount we can contribute under the Internal Revenue Code to the DC Plan for pilots in 2007. In addition, we intend to implement changes to our DC Plan for non-pilot employees following our exit from bankruptcy but the design of these plan changes has not yet been finalized.
 
Defined Benefit Pension Plans (“DB Plans”). During the year ended December 31, 2006, we contributed approximately $4 million to our DB Plans. Under our settlement agreement with the PBGC, the Pilot Plan was terminated effective September 2, 2006, and we agreed to initiate, prior to our emergence from Chapter 11, a standard termination of a separate frozen qualified defined benefit pension plan for certain pilots formerly employed by Western Air Lines. In addition, our non-qualified defined benefit pension plans for pilots were terminated effective September 2, 2006.
 
Effective December 31, 2005, future pay and service accruals under the Non-pilot Plan were frozen. The Pension Preservation Act of 2006 allows us to reduce the funding obligations for the Non-pilot Plan over the next several years. As a result of this legislation, we intend to maintain the Non-pilot Plan. While this legislation makes our funding obligations for the Non-pilot Plan more predictable, factors outside our control will continue to have an impact on the funding requirements for that plan.

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Estimates of future funding requirements for the Non-pilot Plan are based on various assumptions, including legislative changes regarding these obligations. These assumptions also include, among other things, the actual and projected market performance of assets of the Non-pilot Plan; statutory requirements; the terms of the Non-pilot Plan; and demographic data for participants in the Non-pilot Plan, including the number of participants and the rate of participant attrition.
 
Assuming current funding rules and current plan design, we estimate that the funding requirements under the Non-pilot Plan for 2007, 2008 and 2009 will aggregate approximately $300 million.
 
Contract Carriers. We have long-term contract carrier agreements with the following five regional air carriers (in addition to Comair): Chautauqua, Shuttle America, ASA, SkyWest Airlines, and Freedom. Under these agreements, the carriers operate some or all of their aircraft using our flight code, and we schedule those aircraft, sell the seats on those flights and retain the related revenues. We pay those airlines an amount, as defined in the applicable agreement, which is based on a determination of their cost of operating those flights and other factors intended to approximate market rates for those services.
 
Under these long-term contract carrier agreements, we are obligated to pay certain minimum fixed obligations, which are included in the table above. The remaining estimated expenses are not included in the table because these expenses are contingent based on the costs associated with the operation of contract carrier flights by those air carriers as well as rates that are unknown at this time. We cannot reasonably estimate at this time our expenses under the contract carrier agreements in 2007 and thereafter.
 
We may terminate the Chautauqua and Shuttle America agreements without cause at any time after May 2010 and January 2013, respectively, by providing certain advance notice. If we terminate either the Chautauqua or Shuttle America agreements without cause, Chautauqua or Shuttle America, respectively, has the right to (1) assign to us leased aircraft that the airline operates for us, provided we are able to continue the leases on the same terms the airline had prior to the assignment and (2) require us to purchase or lease any of the aircraft that the airline owns and operates for us at the time of the termination. If we are required to purchase aircraft owned by Chautauqua or Shuttle America, the purchase price would be equal to the amount necessary to (1) reimburse Chautauqua or Shuttle America for the equity it provided to purchase the aircraft and (2) repay in full any debt outstanding at such time that is not being assumed in connection with such purchase. If we are required to lease aircraft owned by Chautauqua or Shuttle America, the lease would have (1) a rate equal to the debt payments of Chautauqua or Shuttle America for the debt financing of the aircraft calculated as if 90% of the aircraft was debt financed by Chautauqua or Shuttle America and (2) other specified terms and conditions.
 
We estimate that the total fair values, determined as of December 31, 2006, of the aircraft that Chautauqua or Shuttle America could assign to us or require that we purchase if we terminate without cause our contract carrier agreements with those airlines (the “Put Right”) are $483 million and $367 million, respectively. The actual amount that we may be required to pay in these circumstances may be materially different from these estimates.  If the Chautaqua or Shuttle America Put Right is exercised, we must also pay to the exercising carrier 10% interest (compounded monthly) on the equity the carrier provided when  it purchased the put aircraft.  These equity amounts for Chautauqua and Shuttle America total $56 million and $34 million, respectively.
 
For additional information on contract carrier agreements see Note 8 of the Notes to the Consolidated Financial Statements.
 
Interest and Related Payments. Estimated amounts for future interest and related payments in connection with our long-term debt obligations are based on the fixed and variable interest rates specified in the associated debt agreements. We expect to pay $643 million related to interest on our fixed and variable rate long-term debt not subject to compromise in 2007. Estimates on variable rate interest were calculated using implied short-term LIBOR based on LIBOR at December 31, 2006. The related payments represent credit enhancements required in conjunction with certain financing agreements.  As a result of our Chapter 11 filing, actual interest expense in 2007 is expected to be less than the contractual interest expense. See Note 2 of the Notes to the Consolidated Financial Statements for information about our policy relating to interest expense.

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Legal Contingencies. We are involved in various legal proceedings relating to antitrust matters, employment practices, environmental issues and other matters concerning our business. We cannot reasonably estimate the potential loss for certain legal proceedings because, for example, the litigation is in its early stages or the plaintiff does not specify the damages being sought. As a result of our Chapter 11 proceedings, virtually all pre-petition pending litigation against us is stayed and related amounts accrued have been classified in liabilities subject to compromise on the Consolidated Balance Sheet at December 31, 2006 and 2005.
 
Other Contingent Obligations under Contracts. In addition to the contractual obligations discussed above, we have certain contracts for goods and services that require us to pay a penalty, acquire inventory specific to us or purchase contract specific equipment, as defined by each respective contract, if we terminate the contract without cause prior to its expiration date. Because these obligations are contingent on our termination of the contract without cause prior to its expiration date, no obligation would exist unless such a termination occurs. We also cannot predict the impact, if any, that our Chapter 11 proceedings might have on these obligations.
 
For additional information about other contingencies not discussed above as well as discussions related to general indemnifications, see Note 8 of the Notes to the Consolidated Financial Statements.
 
Application of Critical Accounting Policies
 
Critical Accounting Estimates
 
The preparation of financial statements in conformity with GAAP requires management to make certain estimates and assumptions. We periodically evaluate these estimates and assumptions, which are based on historical experience, changes in the business environment and other factors that management believes to be reasonable under the circumstances. Actual results may differ materially from these estimates.
 
Claims Resolution Process. As of February 7, 2007, claims totaling about $87.0 billion have been filed with the Bankruptcy Court against the Debtors, and we expect new and amended claims to be filed in the future, including claims amended to assign values to claims originally filed with no designated value. We have identified, and we expect to continue to identify, many claims that we believe should be disallowed by the Bankruptcy Court because they are duplicative, have been later amended or superseded, are without merit, are overstated or for other reasons. As of February 7, 2007, the Bankruptcy Court has disallowed approximately $1.2 billion of claims and has not yet ruled on our other objections to claims, the disputed portions of which aggregate to an additional $2.8 billion. We expect to continue to file objections in the future. Because the process of analyzing and objecting to claims is ongoing, the amount of disallowed claims may increase significantly in the future.
 
Through the claims resolution process, differences in amounts scheduled by the Debtors and claims filed by creditors will be investigated and resolved, including through the filing of objections with the Bankruptcy Court where appropriate. In light of the substantial number and amount of claims filed, the claims resolution process may take considerable time to complete, and we expect that it will continue after our emergence from Chapter 11. Accordingly, the ultimate number and amount of allowed claims is not presently known, nor is the exact recovery with respect to allowed claims presently known.
 
Passenger Revenue. We record sales of passenger tickets as air traffic liabilities on our Consolidated Balance Sheets. Passenger revenue is recognized when we provide transportation or when the ticket expires unused, reducing the related air traffic liability. We periodically evaluate the estimated air traffic liability and record any resulting adjustments in our Consolidated Statements of Operations in the period in which the evaluations are completed. These adjustments relate primarily to refunds, exchanges, transactions with other airlines and other items for which final settlement occurs in periods subsequent to the sale of the related tickets at amounts other than the original sales price.
 
Frequent Flyer Program. We have a frequent flyer program, the SkyMiles Program, offering incentives to increase travel on Delta. This program allows participants to earn mileage for travel awards by flying on Delta, Delta Connection carriers and participating airlines, as well as through participating companies such as credit card companies, hotels and car rental agencies. Mileage credits can be redeemed for free or upgraded air travel on Delta and participating airlines, for membership in our Crown Room Club and for other program awards.

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For SkyMiles accounts with sufficient mileage credits to qualify for a free travel award, we record a liability for the estimated incremental cost of flight awards that are earned and expected to be redeemed for travel on Delta or other airlines. Our incremental costs include our system average cost per passenger for fuel, food and other direct passenger costs for awards to be redeemed on Delta. These estimates are generally updated based on our 12-month historical average for such costs. We also accrue a frequent flyer liability for the mileage credits that are expected to be used for travel on participating airlines based on historical usage patterns and contractual rates. We periodically record adjustments to this liability in other operating expenses on our Consolidated Statements of Operations based on awards earned, awards redeemed, changes in our estimated incremental costs and changes to the SkyMiles program. Changes in these estimates could have a material impact on the liability in the year in which the change occurs and in future years. The liability is recorded in other accrued liabilities on our Consolidated Balance Sheets.
 
At December 31, 2006 and 2005, we estimated that approximately eight million and seven million free travel awards, respectively, were expected to be redeemed for free travel on Delta or other airlines. This estimate excludes mileage credits in SkyMiles accounts which (1) do not have sufficient mileage credits to qualify for a free travel award or (2) have sufficient mileage credits to qualify for a free travel award but which are not expected to be redeemed for such an award.
 
We sell mileage credits in our SkyMiles frequent flyer program to participating companies such as credit card companies, hotels and car rental agencies. The portion of the revenue from the sale of mileage credits that approximates the fair value of travel to be provided is deferred and recognized as passenger revenue over the period when transportation is expected to be provided. Amounts received in excess of the transportation’s fair value are recognized in income currently and classified as other revenue. A change in assumptions as to the period over which the mileage credits are expected to be used (currently 15 to 41 months), the actual redemption activity for mileage credits or our estimate of the fair value of transportation expected to be provided could have a material impact on our revenue in the year in which the change occurs and in future years.
 
Our total liability for future SkyMiles award redemptions for free travel on us or participating airlines as well as unrecognized revenue from selling SkyMiles mileage credits was approximately $887 million and $607 million at December 31, 2006 and 2005, respectively. These amounts were recorded as components of other accrued liabilities on our Consolidated Balance Sheets.
 
Long-Lived Assets. Our flight equipment and other long-lived assets have a recorded value of $13.0 billion on our Consolidated Balance Sheet at December 31, 2006. This value is based on various factors, including the assets’ estimated useful lives and their estimated salvage values. In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”), we record impairment losses on long-lived assets used in operations when events and circumstances indicate the assets might be impaired and the estimated future cash flows generated by those assets are less than their carrying amounts. The impairment loss recognized is the amount by which the asset’s carrying amount exceeds its estimated fair value.
 
In order to evaluate potential impairment as required by SFAS 144, we group assets at the fleet type level (the lowest level for which there are identifiable cash flows) and then estimate future cash flows based on projections of passenger yield, fuel costs, labor costs and other relevant factors. We estimate aircraft fair values using published sources, appraisals and bids received from third parties, as available. For additional information about our accounting policy for the impairment of long-lived assets, see Notes 2 and 5 of the Notes to the Consolidated Financial Statements.
 
Income Tax Valuation Allowance and Contingencies. In accordance with SFAS No. 109, “Accounting for Income Taxes” (“SFAS 109”), deferred tax assets should be reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be realized. The future realization of our net deferred tax assets depends on the availability of sufficient future taxable income. In making this determination, we consider all available positive and negative evidence and make certain assumptions. We consider, among other things, our deferred tax liabilities; the overall business environment; our historical earnings and losses; our industry’s historically cyclical periods of earnings and losses; and our outlook for future years.

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Our income tax provisions are based on calculations and assumptions that are subject to examination by the Internal Revenue Service and other tax authorities. Although we believe that the positions taken on previously filed tax returns are reasonable, we have established tax and interest reserves in recognition that various taxing authorities may challenge the positions we have taken, which could result in additional liabilities for taxes and interest. We review the reserves as circumstances warrant and adjust the reserves as events occur that affect our potential liability, such as lapsing of applicable statutes of limitations, conclusion of tax audits, a change in exposure based on current calculations, identification of new issues, release of administrative guidance, or the rendering of a court decision affecting a particular issue. We adjust the income tax provision in the period in which the facts that give rise to the revision become known.
 
For additional information about income taxes, see Notes 2 and 9 of the Notes to the Consolidated Financial Statements.
 
Pension Plans. We sponsor DB Plans for our eligible employees and retirees. The impact of these DB Plans on our Consolidated Financial Statements as of December 31, 2006 and 2005 and for the years ended December 31, 2006, 2005, and 2004 is presented in Note 10 of the Notes to the Consolidated Financial Statements. Assuming current plan design, we currently estimate that our defined benefit pension plan expense in 2007 will be approximately $100 million. The effect of our DB Plans on our Consolidated Financial Statements is subject to many assumptions. We believe the most critical assumptions are (1) the weighted average discount rate and (2) the expected long-term rate of return on the assets of our DB Plans. The Pilot Plan and pilot non-qualified defined benefit pension plans were terminated during 2006. For additional information regarding these terminations, see Note 10 of the Notes to the Consolidated Financial Statements.
 
We determine our weighted average discount rate on our measurement date primarily by reference to annualized rates earned on high quality fixed income investments and yield-to-maturity analysis specific to our estimated future benefit payments. We used a weighted average discount rate of 5.88% and 5.69% at September 30, 2006 and 2005, respectively. Additionally, our weighted average discount rate for net periodic benefit cost in each of the past three years has varied from the rate selected on our measurement date, ranging from 6.09% in 2004 to 5.67% in 2006, due to remeasurements throughout the year. The impact of a 0.50% change in our weighted average discount rate is shown in the table below.
 
The expected long-term rate of return on the assets of our DB Plans is based primarily on specific asset investment studies for our DB Plans performed by outside consultants who used historical returns on our DB Plans’ assets. The investment strategy for pension plan assets is to utilize a diversified mix of global public and private equity portfolios, public and private fixed income portfolios, and private real estate and natural resource investments to earn a long-term investment return that meets or exceeds a 9% annualized return target. Our historical annualized ten-year rate of return on plan assets is approximately 9% as of December 31, 2006. The impact of a 0.50% change in our expected long-term rate of return is shown in the table below.
 
 
 
Change in Assumption
 
Effect on 2007
Pension Expense
Effect on Accrued
Pension Liability at
December 31, 2006
0.50% decrease in discount rate
+$15 million
+$475 million
0.50% increase in discount rate
-$15 million
-$475 million
0.50% decrease in expected return on assets
+$20 million
—
0.50% increase in expected return on assets
-$20 million
 —
 
Our rate of change in future compensation levels is based primarily on labor contracts with our employees under collective bargaini