United Airlines is promising more flights, added comfort onboard and technology “at your fingertips.” But in reality, the carrier needs to get over itself and fix its merger challenges before it’s too late.
The merger integration between United Airlines and Continental Airlines has been anything but seamless. In fact, coining the combination anywhere near “successful” is still a very far-off goal in the horizon that the carrier is nowhere near at this stage in the game.
United still believes that the woes it has suffered are standard operating procedure for airline mergers, but is finally acknowledging that it has to resurrect many of its operational and service standards irregularities in order to get its balance sheet in-house to deliver a consistent return on invested capital in excess of 10%.
During the busy summer months, United reported the lowest on-time performance (OTP) record of all US carriers at an average rate of 70%. United Chief Financial Officer John Rainy reported to investors that this record was “unacceptable to its customers,” according to an article published in CAPA today.
United had initially targeted an 80% OTP rate for the summer, but clearly fell below that number, which CEO Jeff Smisek admitted was due to “some mistakes on our part.”
For the month of June, United reported an OTP rate of 70%, down 4.6 percentage point over the same month in 2011. For July, the OTP was even lower at 64%, down 10.2% from the previous year. Things were slightly better in August at 72%, which was actually up 4.1 ppts from August 2011, but still falling short of its goal. However, signs appear to be on a positive trend for this month: on September 15, United reported hitting an 80% OTP rate month-to-date (MTD).
It is no secret that United has seen some shifts in loyalty within its once-prized corporate passenger share. Many of its elite fliers have elected to switch over to competitor carriers such as American, Delta and US Airways who have offered to match premier status levels in exchange for continued future loyalty. American, for example, has waived standard qualification criteria for passengers seeking to reach AAdvantage Platinum status as long as they fly 10,000 miles or earn 10,000 points flying on American or its partner carriers by December 31, 2012, which is a fairly attainable goal for most frequent travelers.
As such, United needs to be weary about whether or not it will be able to recapture its elite customers if the integration challenges continue. Delta has been especially aggressive in building up a hub at New York LaGuardia airport (LGA) after receiving 132 landing slot pairs through a swap deal with US Airways. Delta management reported that the carriers’ operating margins at LGA jumped 3 percentage points in July 2012 after a 40% capacity increase year-over-year. This could prove to be a threat for United’s hub at Newark Liberty international airport (EWR) across the bay.
United CEO Jeff Smisek used a construction analogy as a response to this situation:
In the middle of construction people will sometimes take detours around construction until that construction is finished.
-United CEO Jeff Smisek
However, the financial metrics will not prove an otherwise compelling story unless some improvements come about. United did not post glowing unit revenue performance compared to its peers over the summer months, hovering at marginal-to-flat levels of growth while legacy carriers showed moderate increases. (SOURCE: CAPA/Company Reports)
|Year-over-Year percentage growth, by Month|
In response, United pointed to it’s Passenger Revenue per Available Seat Mile (PRASM) calculations, which were at a industry-leading premium compared to its competitors for the 12 months ending Q2 2012. PRASM is a revenue management tool which is calculated by dividing passenger revenue by available seat mile, and is presented in terms of cents per mile. It is essentially equivalent to the product of load factor and yield.
During this period, United reported 13.12 cents in PRASM, ahead of Delta at 12.06 cents, American at 11.94 cents, US Airways at 10.60 cents, and Southwest Airlines at the tail end at 8.86 cents.
However, PRASM performance does little to counteract United’s operating loss of USD $109 million for the first 6 months ended 30-Jun 2012, compared to Delta’s USD $44 million loss and US Airways’ USD $355 million profit. The fact remains that United is contending with mounting unique costs attributed solely to their own integration problems. This, combined with their unimpressive monthly unit revenue performance, continues place them in a highly uncompetitive position.
The situation is still not hopeless for United, but time is ticking before the well of consumer and investor patience goes dry.
United is still grasping at a few straws to bolster investor confidence. CFO Rainey pointed towards its 10% Return on Invested Captial (ROIC) of 10.3% for the first half of 2012, above its 10% goal, despite spikes in fuel costs that have brought down returns over the past two years.
In addition, United has reduced its net debt by approximately USD $4 billion since 2009 and cut interest expense by 20% from USD $1 billion to USD $800 billion in 2012.
On the supply and demand front, United has revised its capacity guidance for the next few months to decrease its inventory up to 2-3%, up from previously stated 1-2%. Overall system capacity is projected to fall by 1% in 2013, a further reduction from previous estimates of flat growth for the upcoming year. All of these decisions have been based on expectations of softening demand over the next 12 to 18 months.
Even with these controls in place, United has a long way to go before rendering the implementation “complete.” In many observations, the United and Continental services and cultures appear separate and distinct across its 10 hubs, which needs to be addressed as the carrier continues to cross-fleet and deploy aircraft throughout its network. It has come to a point where the consumer has to play guessing games about the customer experience they’ll receive on United, which is the easiest way to spurn repeat business in the airline industry.
Operationally and financially, consumer and investor expectations are variegated and high, but critical for the carrier’s long-term viability. United needs to leapfrog from delivering on mediocre standards, otherwise it will be a long, tough road to full recovery.