After turning in inconsistent performances this spring, airlines have bounced back with a very strong summer travel season. In July, the five largest U.S. carriers posted strong unit revenue growth across the board. The same pattern played out in August as well.
|
Airline |
Unit Revenue Change |
Capacity Change |
|---|---|---|
|
AMR (NASDAQOTH: AAMRQ) |
Up 3.0% |
Up 4.2% |
|
Delta Air Lines (DAL 1.64%) |
Up 4.0% |
Up 3.3% |
|
Southwest Airlines (LUV 2.63%) |
Up 4.0% |
Up 1.4% |
|
United Continental (UAL 0.84%) |
Up 3.5%-4.5% |
Down 1.4% |
|
US Airways (NYSE: LCC) |
Up 5.0% |
Up 5.1% |
Source: Airline press releases
Unit revenues stay strong
All five top U.S. airlines reported healthy unit revenue increases within a tight range of 3%-5%, just as they did for July. Moreover, capacity growth ticked up somewhat sequentially. Once again, US Airways and its prospective merger partner AMR led the industry in capacity growth. Delta was right behind them in terms of growth.
US Airways has been the fastest growing major U.S. airline recently
By contrast, Southwest Airlines increased capacity by just 1.4%, which is much slower than its typical growth rate in recent years. Moreover, it cut departures by 4% year over year. Thus, its capacity increases were the result of having more seats per plane (on average) and operating longer flights.
One laggard
Once again, United was the only carrier to cut capacity last month. Despite reducing capacity, it remained firmly in the middle of the pack with respect to unit revenue growth. This may not seem especially worrisome: United is already the largest carrier in the world, so it can afford to shrink without compromising the competitiveness of its network.
However, the result is that United's cost structure -- already one of the highest in the airline industry -- is diverging even more from peers. Cutting capacity boosts United's unit revenue by reducing the supply of seats on certain routes to better match demand. However, it also means that United is spreading its fixed costs over fewer seat miles.
As a result, United expects Q3 non-fuel unit costs to jump by 6.4%-7.4%, whereas Delta projects a modest increase of 0%-2%. US Airways also expects low single-digit growth in non-fuel unit costs this quarter, followed by a decline in Q4. Southwest expects a "slight increase" for Q3, in line with its plan for a 1% increase in non-fuel unit costs this year.
In other words, United's competitors will be able to translate solid Q3 unit revenue growth into strong profit growth. By contrast, while United may also be able to increase its earnings, it will likely see much less margin growth than its competitors. Analysts currently expect United to grow EPS from $1.35 in Q3 2012 to $1.97 this year. That projection seems overly optimistic based on United's current outlook.
Foolish bottom line
Airlines posted solid unit revenue increases this summer. This should translate into solid increases in pre-tax earnings -- for those airlines that have kept their costs in check. However, United Continental has been shrinking capacity in order to keep unit revenue aloft, contributing (along with other factors) to significant cost inflation. This will keep its margins well below peers for the foreseeable future and make United a prime target of other airlines' expansion plans.
