United Airlines sets the bar for future aircraft orders
Taking advantage of the economic downturn when manufacturers are hungry for new orders, UAL Corp (UAUA), parent of United Airlines, split its widebody order between 25 Airbus A350XWB-900s and 25 Boeing 787-8 Dreamliners to ensure maximum flexibility on many fronts including having the right capacity to open new long-range routes and markets. The three companies refused to discuss details although deep discounts can sometimes reach as high as 30%.
“This is a significant investment in the company’s future that will enable the carrier to reduce operating costs and better match aircraft to key markets it serves, while providing its customers with state-of-the-art cabin comfort,” said the company in its statement. The aircraft order follows a rigorous, six-month request for proposal process, which resulted in agreements with both manufacturers, enabling the company to meet its financial and operational objectives and respond to changes in future market conditions.
In its long-awaited announcement on its widebody competition, UAL signaled what could be the new and refreshing bar for future aircraft orders – managing the downside risk. The company said it is now turning its attention on what engine will power its 787 – the Rolls Royce Trent 1000 or the GE GEnx – and its upcoming request for proposals on its narrowbody fleet both expected next year.
United Airlines President John Tague outlined the strategy for aircraft orders. “We have a different perspective on what we are optimizing against,” he told analysts and reporters on the company’s conference call. “Our goal is to manage the company in the down cycle and manage the downside risk. We want to strengthen our network, broaden our network but be extremely disciplined on the capacity side.” The airline expects any future orders to result from a similar competition.
Replacement and non-stops, not growth
While carriers have universally pointed to capacity discipline as the key to future success, the United order is the clearest signal yet of just how that will manifest itself. Its first order in a decade, United last took delivery of aircraft in 2002. Its fleet of 747s and 767s, which will be retired as the new aircraft are delivered, have an average age of 14, while the 777 average is only 10 years, which accounts for the timing of the order.
“This was a good financial decision for United in which we got right aircraft and the right deal,” said CFO Kathryn Mikells, adding the company was able to secure significant back stop financing from the vendors. “Our rational was simple – an opportunistic order at the bottom of business cycle which would provide us the leverage to secure the best pricing, flexibility and overall order economics for United. We also stipulated the financial hurdles. The re-fleeting investment needed to drive returns for our investors. It could not impede our ability to continue building our liquidity or detract from efforts to strengthen our balance sheet long term. It must provide us with the flexibility we need to adjust to changing market conditions. These new aircraft will provide United with significant step change improvements on operating economics and a return on our investment.
Tague said the additional 50 purchase rights include the ability to substitute other models in the two widebody families. “This affords us the flexibility to re-optimize the financial performance of the network against the changing competitive and market conditions as we proceed through the programs,” he said. “The increased range will allow us to take full advantage of our strategically located network of domestic hubs and allows new nonstop service from our hubs to destinations throughout Africa, Asia Pacific, the Middle East and Europe, while improving the international route economics for the current United network. It also allows passengers to reduce the number of connections and enjoy more direct nonstop network opportunities.”
UAL Chair, President and CEO Glenn Tilton said the request for proposals from the two aircraft manufacturers was adamant that the company’s hard work to improve its balance sheet could not be impacted by the new orders.
“Over the last few years we have made fundamental improvements in United’s performance, delivering excellent cost control while improving the quality and reliability of our product,” he said. “This aircraft order is another significant step on the path to position United for long-term success in a highly competitive global market. We are investing in our future, and we are well positioned to take full advantage as the economy recovers in the shorter term.”
Mikells said the cash outlay through 2013 is minimal for deliveries that begin in 2016 and end for this initial firm order in 2019. “The orders require minimal capital over the next few years but ensure we will have the right planes to strengthen our global network over the next decade,” she said. “Cash payments for the next three years will be USD60 million and USD152 million over the next five years. This will give us time to continue strengthening our liquidity position and balance sheet prior to payment obligations ramping up prior to aircraft delivery. The industry has been rocked by high oil prices, wars and a recession. We’ve secured significant deferral flexibility as well as broad substitution rights that will allow us to manage our capacity effectively throughout the replacement cycle for a wide range of possible macro economic environments.”
Mikells reported that the 50 new aircraft will reduce the average seat count by about 19% compared to the aircraft they will replace, and by about 10% when averaged over the entire international fleet. This reduction is largely the result of the retirement of its Boeing 747 aircraft. The Dreamliner is slightly larger and has a 32% greater range than the existing 767. The A350 has a range 11 percent greater than the current B747, and the B787 has a range 32 percent greater than the current B767. She said maintaining capacity discipline was the main reason the company did not opt for either the 747-8International or the A380. Its current widebody fleet is 90 and, she added, nothing prevents the company from considering as yet unannounced aircraft that may come along.
With the Airbus A350 powered by the Rolls Royce Trent XWB engine, and the Boeing 787 powered by either the Rolls Royce Trent 1000 or the GE GEnx, United estimates it will reduce its fuel costs and carbon emissions. The new aircraft will burn 15% less fuel per ASM compared to than current wide body fleet, said Mikells.
“These fuel efficiency gains, coupled with the reduction in capacity will produce a 33% reduction in fuel burn compared to the aircraft they replacing,” she said. “These savings are significant. If we had the 50 aircraft in fleet today we would save over USD400 million in fuel expense next year and every year thereafter. And, if fuel goes up the savings would be even greater.”
The order will reduce carbon emissions by 1.7 million metric tons. Mikells noted the new aircraft will lower life-cycle maintenance costs by about 40% with an even greater impact in the early years when airlines count on warranties in what Mickells called a maintenance holiday that comes with the delivery of new aircraft.
Mikells also said that the operating benefits of the two new aircraft far outweighed the additional expenses of having a multi-aircraft fleet. “It was an economically driven decision,” she said. “We looked at the economics and it became clear that the additional cost savings against the benefit of having right range and right aircraft made the most sense for us to buy both aircraft for fleet.”
In response to a question, Tague indicated that cargo volume will also be reduced with the new aircraft which should improve pricing. He called cargo a significant contributor to route profitability that was taken into consideration during the ordering process.