United Continental (NYSE:UAL) posted lower than expected performance in its third quarter earnings. The carrier posted lower revenue and net income on a y-o-y basis as competition from low cost carriers and declining capacity impacted its passenger traffic. Yield for the carrier also reported a marginal decline. Revenue was down 2.6% y-o-y to $9.9 billion, and net income was down 99% y-o-y to $6 million in the third quarter.  Net income was impacted by higher landing fees, aircraft maintenance costs and a special charge related to labor agreements.
On the bright side, the carrier started operations on several new routes that will help offset the decline in its capacity and the impact of declining capacity on passenger traffic. All in all, United posted another tough quarter on its inability to increase its top-line and control its rising non-fuel expenses. Going forward, the replacement of its older fuel inefficient airplanes with new ones will help the carrier control its costs, aiding growth in earnings.
Flights on new routes fail to offset the decline in capacity on other routes
- 2015 Earnings Review: United Continental Posts Record Full Year Profits, Thanks To Lower Fuel Costs
- US Airlines: So Far In This Month
- United and Delta’s Slot Exchange To Hamper Competition In Newark
- United Reported Outstanding 3Q Numbers Driven By Plummeting Fuel Costs
- Expect A Jump In United’s 3Q Earnings On The Back Of Lower Fuel Costs
- United Continental Remains Optimistic On Chinese Growth
United started services on several new routes in the third quarter. These include service from Newark to Istanbul and Columbia, S.C., from San Francisco to Raleigh-Durham, N.C. and from Denver to Shreveport, La.  However, these new services were unable to offset the decline in capacity on other routes. The carrier lowered its capacity, indicated by available seat miles (ASMs) by 3.7% on Atlantic routes due to the continuing slowdown in Europe, and by 1.7% on domestic U.S. routes on increasing competition from low-cost carriers.  It raised its capacity marginally on Latin and Pacific international routes due to the increasing demand for flights on these routes driven by emerging economies of Latin America and Asia-Pacific. Overall, United lowered its capacity by 1.4% y-o-y in the third quarter. 
This decline in capacity impacted passenger traffic for the airline, indicated by 1.5% y-o-y decline in revenue passenger miles (RPMs).  Additionally, the carrier witnessed lower yield on all its routes except Pacific international routes. Lower passenger traffic and yield resulted in lower passenger revenue for the carrier in the third quarter. Passenger revenue declined 2.6% y-o-y to $8.8 billion and cargo revenue declined 13.1% y-o-y in the third quarter.  Total revenue decline 2.6% y-o-y to $9.9 billion.
Fuel costs rise marginally but non-fuel costs rise significantly
Fuel costs for the airline increased marginally on a y-o-y basis. The average fuel price incurred was $3.18 per gallon in the third quarter compared to $3.16 per gallon in the year-ago period. However, non-fuel costs increased significantly resulting in 5.1% y-o-y rise in operating expenses in the third quarter. Non-fuel costs were driven by higher landing fee related expenses, aircraft maintenance costs and a special charge of $454 million related to labor agreements.  The special charge was a lump sum cash payment related to the new joint collective bargaining agreement with the Air Line Pilots Association (ALPA) that represents the pilots at United and Continental.
Replacement of old airplanes will add to earnings growth in the near term
On the whole, United posted another tough quarter with lower top-line and earnings. Over the coming months, United will start replacing its old, fuel-inefficient airplanes with new ones. It will start taking deliveries of 150 Boeing 737s starting from 2013 through 2022. This will help the carrier control its fuel and maintenance expenses and thereby boost its earnings.
We currently have a stock price estimate of $21.72 for the company, approximately 10% above its current market price. We are in the process of incorporating third quarter earnings and will update our analysis shortly.Notes: