We have downgraded our recommendation from Outperform to Neutral on United Continental Holdings Inc. (UAL), with surging fuel prices, adverse weather conditions and uncertain economic conditions diluting our optimism.
Fuel prices climbed 45.2% in the recently concluded second quarter, thereby increasing the company’s operating expense. In addition, the drop in demand for air travel following the March 11 earthquake and tsunami in Japan hurt passenger revenues by about $100 million and capacity by 11.8% in the second quarter. As a result, airlines traffic dipped 1% year over year.
Further damage resulted from the August 26 Hurricane Irene that ran amok in northeastern U.S. The carriers, including United Continental, cancelled flights connecting to eastern network and suffered huge losses. The cancellations hurt the company’s total revenue by $40 million for the month of August. We believe the negative impact of Irene will continue over the year, restricting revenues and profitability further.
Besides, high unionization, competitive threats from its peers Delta Air Lines Inc. (DAL) and AMR Corporation (AMR), and integration of Continental Airlines with United might pose risks to the company’s profitability going forward.
However, the largest U.S. airlineis well positioned to combat losses with fare hikes and capacity cuts. We believe the reviving demand for air travel, reduced capacity, unit revenue growth, fleet and network optimization, hedging strategy as well as merger benefits from Continental Airlines bode well for United Continental’s growth.
To increase profitability further, United Continental is consistently expanding on-board products and services in both domestic and international fleets. United Continental is in process of re-branding the fleet, offering Wi-fi through DirecTV and reconfiguring its international aircraft with new flat-bed seats in first and business classes.
Hence, we remain on the sidelines at present. For the short term (1-3 months), the stock retains a Zacks #3 Rank (Hold).
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UNITED CONT HLD (UAL): Free Stock Analysis Report
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