United Continental Holdings (NYSE:UAL) is geared up to disclose its FY 2011 financial results Thursday along with peers such as JetBlue Airways (NYSE:JBLU). While we expect the steep rise in fuel costs the past year to have a visible impact on the carrier’s bottom-line, we see United’s progress towards full integration post the merger as well as its cautious and strategic capacity management to help it counter the cost pressures. Deriving benefits from these factors, we expect the airline to deliver a healthy unit revenue growth in the 9%-10% range on a consolidated basis.
The past year, United announced plans to launch service on several new international routes in the first half of 2012 in an attempt to leverage the expanded route network following the merger. The carrier is however maintaining capacity discipline by cutting capacity on unprofitable routes and right-sizing network in response to expected demand. The airline regularly evaluates the performance of each flight and the markets it serves to reallocate assets if a route is not generating sufficient returns. During Q3, it reduced trans-Atlantic capacity, reducing and down gauging flights to Europe, which were not generating returns in line with the set goals and expectations.
Below we discuss these trends in detail that we expect to set the tone for United Continental’s results Thursday.
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Capacity expansion focused on international routes in 2011
The FY 2011 operational results released earlier this month show that United and Continental’s combined consolidated traffic during the fiscal decreased 1.4% y-o-y, on a largely flat capacity growth, with at least 1% lower load factor versus 2010. Capacity has been largely curtailed on domestic routes with nearly 3% y-o-y reduction in available seat miles in 2011 while international markets saw a 2.4% expansion in capacity. The bulk of capacity growth occurred in Latin America, which led the yield performance internationally in Q3 with 22% yields improvement y-o-y. The company is optimizing its network in favor of international markets in order to capitalize on the market opportunities enabled both by the merger and next-generation aircraft technology.
United will take delivery of 5 Boeing 787 Dreamliners this year with the first coming into service in the second half of 2012. The aircraft is being viewed as a game changer creating new profitable market opportunities for the carrier, especially on long haul routes, with its excellent operating economics. On the other hand, domestic capacity is being reduced with the conversion of 14 Boeing 767 300 aircraft from the domestic configuration to the carrier’s international configuration.
Integration progress in Q4
The past quarter, United Continental was granted a single operating certificate by Federal Aviation Administration (FAA), underscoring significant progress towards the integration of United Airlines and Continental Airlines. The move marks the culmination of 18 months of alignment work between United and Continental who have integrated hundreds of internal policies and procedures in pursuit of becoming a single entity. Though questions remain over joint pilot training, we see the FAA’s designation as an important milestone on the path to boosting operational efficiency at the airline. About 2,000 individual policies have been amalgamated with everything from passenger boarding methods to staff standby privileges being up for review. Though cockpit training procedures and maintenance manuals have yet to be finalized – due in large part to an unsuccessful lawsuit by United pilots – it is expected that standardization will deliver significant operational savings in the medium-term.
During Q4, United also achieved some break-through on the merger-related labor negotiations as United mechanics ratified a new labor agreement and reached a tentative agreement with the Association of Flight Attendants (AFA). The airline already has agreements in place with the Continental subsidiary flight attendants, mechanics and below the wing agents.
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