What Is United Doing To Improve Its Cost Performance?

by Trefis Team
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United Continental Holdings
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In recent quarters, United‘s (NYSE:UAL) results have struggled to keep up with those of its peers. In the first quarter of 2014, United posted a loss of $609 million, compared with profits of $213 million and $152 million posted by Delta and Southwest, respectively. [1] [2] [3] In 2013 as well, United’s profits lagged behind those of Delta and Southwest. While, Delta is of nearly the same size as United, Southwest is much smaller than United. We figure in spite of being the larger carrier, United’s results have trailed those of Delta and Southwest due its own substandard revenue and cost performances. In a previous article, we highlighted the steps that United is taking to improve its revenue performance. The carrier’s revenue initiatives basically revolve around improving the value of its flight network and optimizing its revenue management practices. In this article, we focus on steps that United is taking to improve its cost performance. Together, these revenue and cost initiatives will likely improve United’s results in the coming quarters and help the carrier bridge the gap with its peers.

We currently have a stock price estimate of $46.86 for United, around 10% ahead of its current market price.

See our complete analysis of United here

United Is Raising Its Employee Productivity And Slashing Its Maintenance & Distribution Costs

Last year, United’s non-fuel costs, as measured by non-fuel costs per available seat mile (non-fuel CASM), rose rapidly. Non-fuel CASM is a standard metric used in the airline industry to measure an airline’s cost structure and efficiency. Fuel costs are excluded from this metric to more accurately assess how well an airline manages the costs it can control. Fuel costs being linked with the global crude oil prices are out of an airline’s control. In 2013, United’s non-fuel CASM rose at a high rate of about 6% annually, far outstripping the growth in the carrier’s revenues. [4] This indicated that United was facing pressure from rising employee salaries and other non-fuel cost heads such as maintenance, distribution and sourcing. For the carrier to improve its profits, it was essential that it first controlled this high rate of growth in its non-fuel costs.

So, over the last few months, United introduced several measures to control this high rate of growth in its non-fuel costs. The carrier’s action plan revolves around containing four key non-fuel cost heads – employee salaries, distribution costs, sourcing costs and maintenance costs. The carrier is containing its salary costs by seeking to raise its employee productivity levels. It is achieving this in part by asking customers to tag their own checked bags and to swipe their own passes before boarding planes. The carrier is saving on maintenance costs by implementing lean practices, and it is saving on distribution costs by attracting greater bookings through united.com. In all, through these measures, United expects to save about $250-300 million in 2014. [5] As a result, the carrier forecasts annual growth in its non-fuel CASM to come down to around 1-2% in 2014. [1] We figure if United succeeds in limiting the growth in its non-fuel costs to this level, then its 2014 profits will receive a boost.

Apart from addressing its rising non-fuel costs, United is also trying to contain its fuel costs. The carrier is doing this by raising fuel efficiency standards of its airplane fleet. The carrier is replacing old, less fuel efficient airplanes in its fleet more with fuel efficient airplanes. In the current year, United plans to take delivery of 52 new airplanes, which include 6 Boeing 787 Dreamliners, 29 Boeing 737-900ERs, 17 Embraer-175 jets. [6] These new airplanes will replace older airplanes that are on average over two decades old. United figures that the new 787 Dreamliners will be 15-20% more fuel efficient than the airplanes it will replace; the Boeing 737-900ERs and Embraer-175s will also be 15% and 10% more fuel efficient, respectively, than the airplanes they will replace. So, this fleet modernization will significantly improve United’s fuel efficiency standards. The carrier on its part estimates that this fleet modernization of its airplane fleet will slash approximately $200 million from its fuel costs in 2014. [5] So, this initiative will also help improve United’s 2014 profits.

Overall, we figure gains from these non-fuel and fuel cost initiatives will help improve United’s results in the second and remaining quarters of 2014.

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Notes:
  1. United’s 2014 Q1 earnings form 8-K, April 24 2014, www.unitedcontinentalholdings.com [] []
  2. Delta’s 2014 Q1 earnings form 8-K, April 23 2014, www.sec.gov []
  3. Southwest’s 2014 Q1 earnings form 8-K, April 24 2014, www.swaamedia.com []
  4. United’s 2013 10-K, February 2014, www.unitedcontinentalholdings.com []
  5. United at Deutsche Bank Industrials Presentation, June 5 2014, www.unitedcontinentalholdings.com [] []
  6. United’s presentation at Bank of America Conference, May 2014, www.unitedcontinentalholdings.com []
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