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United Plots Course to Success, But Skepticism Remains
Author: Lou Whiteman
Perennial underperformer United Continental (UAL) on Tuesday laid out its plan to improve operations and close a substantial margin gap vs. its rivals. Reaching that destination will be no easy task.
A United team led by CEO Oscar Munoz said on an investor call that they believe they can increase operating income by $3.1 billion by 2018 via cost reductions and revenue enhancements. United also said it expects second quarter passenger revenue per available seat mile to drop between 6.5% and 7.5%, relatively good news compared to previous guidance that the commonly-used industry metric could fall upwards of 8.5% during the quarter.
The upbeat investor call and improved guidance was cheered by Wall Street, sending United shares up nearly 3%, or $1.21, in mid-afternoon trading. But shares of the company are down more than 20% on the year, and investors would be well advised to avoid getting overly excited about United's future projections.
Indeed United has seemingly been announcing turnaround plans and promising of better days ahead as far back as the company's mid-1990s employee takeover, and most of those initiatives have fallen short of expectations. The airline is also fighting structural issues relative to rivals like Delta Air Lines (DAL) and American Airlines Group (AAL) , including substantial exposure to the slumping energy sector thanks to its Houston hub.
Part of United's confidence this time around comes from the fact that a good portion of the planned improvements would come from the airline simply taking steps that its competitors already have in place. United has had its fair share of issues over the last year, ranging from a proxy fight, labor strife, a federal probe into dealings with government officials, a CEO ouster and then Munoz's health issues and eventual heart transplant.
"We've been distracted with so much drama and crap for the past year," Munoz said, candidly. "We need to catch up."
United believes it can improve results by better-segmenting fares to allow the airline to both better compete against discounters and extract a premium from business travelers and other less price sensitive customers, a change it expects to generate $1 billion in added revenue by 2018. The company also sees improvements via a new credit card agreement, improved revenue management systems and a fleet renewal that will shift flying to more efficient larger jets.
An additional $300 million in improvements would come from running a better airline with fewer delays and cancellations, an achievement that the company believes will help it win back a higher share of premium business customers while reducing the expense associated with re-accommodating impacted passengers and with equipment downtime. And United sees a $500 million improvement from better cost management, including mitigation to a single maintenance system and squeezing suppliers.
United management also promised to "refine the mission" of its hubs, dancing around the subject of potential closures or pullbacks. Some in the industry believe United is at a structural disadvantage due to its underperforming hub at Washington's Dulles International Airport as well as a reliance on coastal gateway cities that make connections more difficult, but the airline has countered that the coastal locations over better springboards for more lucrative international service.
While some of those changes are quantifiable and easily tracked by investors in the quarters to come, others, in the words of JPMorgan analyst Jamie Baker "fall into the category of 'we'll try harder' and may prove difficult to track." And more worrisome for investors even if United reaches all of its goals, its competitors will presumably not be standing still but rather doing their best to extract additional profit out of their systems.
Munoz admitted as much on the call, answering with an emphatic "hell yes!" when asked if he would expect a competitive response to United's plan and conceded that narrowing the margin gap might be a more realistic objective than actually getting on par with Delta and American.
"We need to understand what our potential is, unlock that potential, and move forward," Munoz said, while adding that he is focused on eventually eliminating the margin gap.
The company's comments come as the airline industry as a whole is struggling a bit.
Last week, United and counter parts American Airlines and Delta saw their stocks take a hit after Bank of America cut its rating and trimmed earnings estimates for the industry. The firm cited recent terrorist attacks, higher fuel prices and the coming U.K. vote on leaving the European Union as reasons to worry.
"The airlines went down because they became airlines again," said Jim Cramer, TheStreet's founder. "[Bank of America] was saying, 'look, the price wars are bad," Cramer said.
He said he was skeptical of United's plans to turn itself around. "You can't just cure yourself," he said.
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