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CHICAGO (Reuters) - Frontier Airlines Holdings Inc received U.S. court approval on Friday to operate in Chapter 11 bankruptcy protection, where it sought refuge from financial pressures of skyrocketing fuel prices and a weakening economy.
Judge Robert Drain of the U.S. Bankruptcy Court for the Southern District of New York granted Frontier's request to permit it to honor reservations, pay wages, vendors and other expenses, and maintain frequent flier programs.
"We are grateful that Judge Drain granted the critical first day motions that will enable Frontier to continue normal operations," Sean Menke, the company's president and chief executive officer, said in a statement.
"Our reorganization is off to a smooth start and we look forward to taking important steps to further strengthen our company," Menke said.
Frontier operated a full schedule of flights on Friday, the company said.
Frontier filed for bankruptcy on Thursday, becoming the fifth U.S. airline in two weeks to take drastic measures to counter a steadily deteriorating business climate.
The crisis at Frontier is different from the circumstances that caused Aloha Airlines, Champion Air, ATA Airlines and Skybus Airlines to shut down last week.
Aside from fuel costs -- which jumped more than 20 percent in 2007 to $2.58 per gallon -- Frontier also faces an eroding cash position caused by changes imposed by its credit card processor, First Data.
"To be clear, we filed for very different reasons than those of other recent carriers," Menke said in an earlier statement.
"Unfortunately, our principal credit card processor very recently and unexpectedly informed us that, beginning on April 11, it intended to start withholding significant proceeds received from the sale of Frontier tickets," he said.
The change to Frontier's deal with First Data, which said it would start withholding 50 percent of credit card funds from the purchase of Frontier tickets, would put "severe restraints on Frontier's liquidity and would have made it impossible for us to continue normal operations," Menke said.
First Data did not say precisely why it raised the proportion of funds it withholds to 50 percent, saying only that it "continually" monitors the credit risks associated with processing transactions. It said the terms of its contract with Frontier were standard industry practice.
"This was very sudden and unexpected," Menke said in a letter to Frontier's employees, made public later on Friday. "We are the victims of a credit market that is very fragile and the tolerance for risk is extremely low."
Frontier said it has enough cash to meet its operating needs. The airline, founded in 1994, competes with Southwest Airlines Co and JetBlue Airways Corp from its hub in Denver.
"Frontier's Chapter 11 filing is not expected to have any material near-term implications on industry fundamentals," JP Morgan analyst Jamie Baker wrote in a research note. "Though it will likely propel the issue of credit card holdbacks to the forefront of many investors' minds, particularly as it relates to discount airlines."
Frontier's filing hit discount carriers hard. The shares of AirTran Holdings Inc, parent of AirTran Airways, plunged 34 percent on Friday to close at $4.13. AirTran issued a statement saying it had no holdbacks with any major credit card processors and had strong liquidity.
"We have ample balance sheet strength to support our operation," said Bob Fornaro, AirTran president and chief executive officer.
The U.S. airline industry has been struggling amid record high fuel prices and a weakening economy.
The demise of Aloha Air, Champion Air, ATA Air and Skybus Air, which operated in fringe markets, underscored the potential for financial disaster at all U.S. carriers. Some experts had forecast failures at smaller low-cost airlines such as Frontier.
"At this point, you can't say it's a one-off because we've seen several bankruptcies," said Marissa Thompson, airline analyst at Morningstar. "These are the airlines we had on our short list that we expected some kind of financial distress."
Thompson said Mesa Air Group Inc, which operates regional airlines, also is ripe for a bankruptcy filing. The carrier said this month it will fight a decision by Delta Air Lines Inc to terminate a contract with its Freedom Airlines Inc Unit.
A Mesa spokesman did not return calls seeking comment on the chance of a bankruptcy.
Frontier, which posted a wider first-quarter loss on higher fuel prices, said in January it would sell four of its nearly two dozen Airbus jets to slow its capacity growth and bolster its cash position.
Frontier shares closed down $1.09 at 48 cents on Nasdaq.
Additional reporting by John Crawley in Washington, Aarthi Sivaraman and Bill Rigby in New York; Editing by Gary Hill