United Continental Is Underestimating the Threat From Delta Air Lines

Today, United Continental (NYSE: UAL  ) is the undisputed leader within the U.S. airline industry for flights to East Asia. At its investor day last fall, United's leaders stated that the company's San Francisco hub has more non-stop service across the Pacific than any other U.S. airline hub. They also boasted that United has more flights to China than all other U.S. carriers combined.

However, American Airlines (NASDAQ: AAL  ) and Delta Air Lines (NYSE: DAL  ) are racing to catch up to United in Asia. Both carriers recognize that Asia is a key region for long-term growth. Delta's nascent hub in Seattle represents a particularly significant threat to United's position as the top transpacific carrier -- but United's leaders may be underestimating that threat.

Delta's growth in Seattle
In the last two years, Delta has made a concerted push to create a global gateway in Seattle that could rival United's operation in San Francisco. At the beginning of 2013, Delta had 5 daily nonstop flights outside of North America from Seattle. It flew to Tokyo, Beijing, and Osaka in Asia, and to its partners' hubs in Amsterdam and Paris in Europe.

Delta is building an international hub in Seattle. Photo: The Motley Fool

Last year, Delta added a second daily flight from Seattle to Tokyo -- this one serving Haneda Airport, which is closer to the Tokyo city center than Narita Airport, where most international flights land. Delta also began service between Seattle and Shanghai in June. However, it cut its flight to Osaka in the fall due to weak demand and the depreciation of the yen.

Delta has continued its growth in Seattle this year. In March, it began nonstop flights between Seattle and London-Heathrow in conjunction with new joint venture partner Virgin Atlantic. This month, Delta is adding to its Asian route network with new daily flights from Seattle to Seoul and Hong Kong. As of next Monday, Delta will fly from Seattle to the top five business destinations in East Asia.

Delta is also rapidly increasing its domestic route network in Seattle to provide connecting traffic for its new international flights. In fact, by the end of 2014, Delta will have more than twice as many daily flights in Seattle as it did at the beginning of the year.

United vs. Delta
United Continental CEO Jeff Smisek doesn't seem too worried about Delta's growth. (He doesn't seem concerned about American's rapid growth in Asia, either: but that's a more reasonable position.) At an investor conference last week, he stated, "Our friends in Atlanta lack a gateway to Asia... The best gateway is already taken -- that's San Francisco."

United Continental CEO Jeff Smisek doesn't seem concerned about Delta's growth in Asia. Photo: The Motley Fool

San Francisco does have two key advantages. First, it has a large local market for travel to Asia, due to its cultural association with many Asian cities and status as a major tech and banking hub. Second, United operates about 300 daily flights in San Francisco, while Delta has fewer than 100 daily flights in Seattle. (Delta can still offer other connections in Seattle through partner Alaska Air (NYSE: ALK  ) , which operates a sizable hub there.)

However, Delta is likely to continue building up its operation in Seattle in the next several years. By the end of the decade -- either through organic growth or via an acquisition of Alaska Air -- it could grow its Seattle hub to the same size as United's San Francisco hub.

Delta's secret weapon in fighting back against United's San Francisco hub is geography. Due to its positioning in the northwest corner of the continental U.S., Seattle is hundreds of miles closer to East Asia than San Francisco.

For example, before last year, the best itinerary for a traveler going from Salt Lake City to Shanghai would have been on United through San Francisco: a total journey of about 6,750 miles. However, flying through Seattle cuts the journey down to 6,410 miles. From many U.S. cities, flying to Asia via Seattle is 5%-10% (and in some cases even 15%) shorter than flying through San Francisco.

The reduced flying distance will translate directly into a cost advantage for Delta. It will also allow Delta to utilize shorter-range planes, which are cheaper to acquire. The threat to United's San Francisco hub from Delta may be relatively modest today, but it will grow exponentially in the next few years as Delta expands in Seattle.

Foolish bottom line
United Continental is still the top dog today among the U.S. carriers for flights to Asia. It has the biggest transpacific hub in San Francisco, and supplements its service there with flights from Los Angeles, Chicago, New York, and Washington D.C. to East Asia. However, American Airlines and Delta Air Lines are both steadily increasing their transpacific service.

Delta's growing hub in Seattle is the most potent long-term threat to United's dominance on transpacific routes. Due to Seattle's positioning several hundred miles closer to Asia than San Francisco, Delta is likely to have lower costs for moving passengers through its hub than United.

Considering that Delta is a much more profitable company overall, that may be all the advantage it needs to disrupt a major piece of United's business. United Continental executives should take this threat a lot more seriously.

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Comments from our Foolish Readers

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  • Report this Comment On June 12, 2014, at 12:36 PM, anindakumars wrote:

    In my last 8 travel decisions I have paid more to avoid flying United, such has been my harrowing experience in the past with United. So irrespective of what the CEO says, god bless its shareholders.

  • Report this Comment On June 12, 2014, at 1:29 PM, Tyeward wrote:

    Sensational headlines are a good way to lure readers, and that´s fine. The issue is simple. There is no underestimation going on. Both Delta and American/USAirway´s are both fully aware of the problems at United and yes, it would seem as if they are moving to take advantage of it big time. Delta and American are now both in a position where they are able to out flank United without fear. The fact that the two of them have far better inflight service doesn´t hurt their position over United either. United is not being strategic enough with what they have and they are not using what they have in an effective manner. To be frank, United would actually be way better off if they were to get rid of some planes they have that are behind the economic powercurve. They need to move to make Newark a bank hub instead of a rolling hub. If it´s cheaper to connect at Dulles than Newark, then shift the traffic there and move to make Newark a predominantly O&D station. What´s the point in having that hub in Japan still? Not worth having and not worth the expense. ANA is in Star, let them take care of their own backyard. Give them that hub and go JV with them from Narita on what you have in operations there currently. Move to see if you can pick up some long haul from out of Frankfurt and Munich under contract with Lufthansa that Lufthansa might not want due to their cost (This is what Delta is doing out of AMS). All in all, United has to move to get creative and be more aggressive. I don´t see that and other airlines don´t see that happening either. That means they are being seen as easy prey.

  • Report this Comment On June 12, 2014, at 3:21 PM, AcuraT wrote:

    This seems to overlook when Delta acquired Northwest, it had a huge presence in Asia that it still has today - through Detroit and Minniapolis/St. Paul. Although not on the west coast like San Francisco or Seattle, they are big hubs in their own right - and offer a lot of flights on now Delta equipment to Asia. Seattle would be a third "hub" or "shadow hub" that Delta has with Asia in its sights. It would seem to me that Delta is trying to ouflank United and its operational problems with three hubs to Asia. Is this thought incorrect?

  • Report this Comment On June 12, 2014, at 5:40 PM, 24copper wrote:

    Mr Weinburg.....You just love to hate United, don't you? Even when they are up, you just love to put them down!

  • Report this Comment On June 12, 2014, at 6:03 PM, TMFGemHunter wrote:

    @AcuraT: Northwest's strength to Asia was really its hub in Tokyo -- something that Delta is rapidly de-emphasizing for a variety of reasons. (BTW Tyeward, United is significantly downsizing its Narita operation as well.)

    The only place in Asia that Delta flies direct from MSP is Tokyo, if I'm not mistaken. In the long run, maybe that will change. Detroit is a good hub for connecting people from the East Coast to Asia, and it fills a similar function as Chicago for American and United. But if you live anywhere west of Detroit, you're doing some serious backtracking to fly through there.

    Seattle is now going to be Delta's primary hub for flights to Asia. And I agree that the strategy is primarily to poach people who previously flew United via SFO. A secondary goal is presumably to stimulate more demand by opening up new direct routes.

    Adam

  • Report this Comment On June 12, 2014, at 6:06 PM, TMFGemHunter wrote:

    @24copper: Not really. I used to own United stock, but I got out when it became clear that it was falling far behind the competition. Perhaps the stock is up, but the company is most certainly down. Pretty much every airline has been growing profit margins rapidly in the last couple of years -- United's best case scenario for 2014 is to get back to where it was in 2011.

    Airlines are a cyclical industry. Whenever the next down-cycle occurs -- and it will happen eventually -- United shareholders will feel a world of pain.

    Adam

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