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UAL earns largest net profit in 11 years – USD430 million ex items

Analysis

After Delta announced what is possibly its largest net profit in decades, United Airlines followed that by reporting a USD430 million second quarter net profit, ex charges, the largest since 1999 and the first profit since 3Q2007. Wall Street liked what it heard, causing its stock price to rise over 5%.

While the result is no doubt impressive given the fact it beat estimates, its actual net profit (with charges) was USD273 million, a little more than half of what Delta reported on Monday and a swing from USD28 million in the year-ago quarter. However, should its proposed merger with Continental be approved, the resulting carrier will undoubtedly give the Atlanta-based carrier a run for its money.

Ancillary impact

The airline cited the return of business travelers especially to Asia and Europe as well as cost controls and the fact that "fuel prices behaved." It also cited ancillary fees.

In speaking with analysts yesterday President John Tague reported that United collected USD14.52 per passenger in ancillary revenue during in the second quarter, up from USD14 in the first quarter, or about USD400 million per year.

Tague was asked what inning the ancillary fee trend was in if it were a baseball game. "I'm not a baseball fan, but Glenn tells me that that equates to the third inning," he said alluding to United Chair and CEO Glenn Tilton. "We have to pretty much declare it an unequivocal success. It is working. I don't think we're very far along, frankly, and that might be surprising to people, given where we are in terms of ancillary revenue generation. We promised our board $1 billion probably four or five years ago in ancillary revenue. I think there's $1 billion in bags over the next several years, and we've only hit $400 million of that. We continue to raise the per-transaction rate and we also have slowly expanded out applicability of bag fees".

He added, "My own view is that over time you'll see bag fees become more or less ubiquitous. It appears the trend is firmly in place, that over time more bags will be assessed fees. It is simply an extrapolation - not a prediction. But if you look at the trend, not only in the US but around the world, it is clearly towards a pay-for-bag-type service. This is the model of the future, I think there's tremendous upside going forward, and I think there's a lot of optional value-added opportunities for our customers as well."

Revenue/mile profile improves

In a telling statistic Tague indicated that the carrier's revenue per mile was 5% better than the same period in 2008. United has been consistently saying that year-on-year comparisons are not as important as year on two. Some two percentage points were derived from ancillary revenue. At United, first and second bag fees and ticketing and change fees are recorded in passenger revenue. Revenue from these fees resulted in a 0.6 point decrease in consolidated PRASM year-on-year, as the growth in passenger revenue outpaced the growth in fee revenue.

In an impressive understatement Chief Financial Officer Kathryn Mikells told analysts, "Our performance across the board is vastly different than we reported to you just a year ago...We understand we need to maintain supply discipline through the business cycle, and our guidance is consistent with that philosophy."

True to form, analysts asked about the possibilities for the rising cash on hand and United echoed Delta in telling them the best way to look after stakeholders is to pay down debt. However, it was a nice departure from previous calls when analysts were asking how the airline could build liquidity. UAL's unrestricted cash almost doubled to $4.91 billion which will be used to pay down its USD11.8 billion debt, according to Mikells, who added that United just paid off a USD75 million private loan

Revenue was up 28% to USD5.16 billion. United also reported a 26.9% year-on-year increase in consolidated passenger revenue per available seat mile (PRASM) for the second quarter with double digit growth rates across all regions. In addition, it experienced only a 1.9% year-on-year increase in consolidated unit cost per available seat mile (CASM) for the quarter, excluding fuel, certain accounting charges and profit sharing, with an increase in consolidated capacity of 1.1% year-over-year.

The operating margin posted for the second quarter reached 8.4%, a 5.7-point jump from 2Q2009 and for the six months was 5.9%, a 12.9% jump from the year-ago period.

The Chicago-based carrier also generated strong operating cash flow of USD874 million and free cash flow of USD801 million in the second quarter, and closed the quarter with a total cash balance of USD5.2 billion, including unrestricted cash of USD4.9 billion. It accrued USD63 million for profit sharing based on year-to-date, pre-tax profitability, and paid USD315 in incentive compensation to each eligible front-line employee based on strong operational and customer satisfaction performance in the second quarter.

United Express revenue up 36.3%, expenses up 28.7%

Its United Express operations took in USD1,021 billion, an increase of 36.3% over the year-ago period while regional PRASM jumped 13.1% on a 20.5% increase in capacity. As a result, expenses rose a whopping 28.7% to USD911 million but the unit was solidly profitable as it was in the first quarter.

For the first half, the company took in USD9.4 billion in operating revenues, up 22%, while Express operation revenue totaled USD1.8 billion, up 32.2%. Operating expenses for the company totaled USD8.8 billion, a jump of 12.9%, of which USD1.7 billion related to United Express, the expenses for which rose 25.2%. Net income for the period reached USD191 million, representing more than a half-billion-dollar swing from the year-ago period.

"We are pleased to report a significant net profit improvement in the quarter along with excellent operational results across the company," said Chair, President and CEO Glenn Tilton. "The United team continues to execute across our critical operating, service and financial metrics and this strong performance builds momentum that we take into our planned merger with Continental Airlines later this year."

Pilot agreement will help merger

The airline also reported that, in a major merger milestone, it has reached an agreement in principle on the transition and process agreement with the pilots of both Continental and United. The agreement provides a framework for pilot operations of the two groups until the carriers' operating certificates are combined. The companies expect to close the merger in the fourth quarter of 2010.

Revenue Trends

For the second quarter, consolidated PRASM increased 26.9% year-on-year. Consolidated yield improved 23.6% and consolidated load factor increased 2.3 percentage points year-over-year.

Geographic Area

2Q 2010
Passenger
Revenue
(millions)

Passenger
Revenue %
vs. 2Q 2009

PRASM %
vs. 2Q 2009

ASM1 %
vs. 2Q 2009

Domestic

$2,063

15.4%

19.1%

(3.0%)

Pacific

789

52.4%

52.0%

0.4%

Atlantic

742

31.7%

33.1%

(1.0%)

Latin America

118

63.4%

55.9%

4.7%

International

$1,649

43.0%

42.9%

0.1%)

Mainline

$3,712

26.2%

28.3%

(1.6%)

Regional Affiliates

$1,021

36.3%

13.1%

20.5%

Consolidated

$4,733

28.3%

26.9%

1.1

Cargo revenue increased 57% year-on-year for the quarter as continued improvements in demand drove strength in both volume and yields across all regions, particularly trans-Pacific markets.

Expenses

Total consolidated expense, including fuel and excluding non-cash net mark-to-market hedge gains and certain accounting charges, increased $455 million, or 11.1% year-on-year for the second quarter. Consolidated expense, excluding fuel, profit sharing programs and certain accounting charges, was up $91 million or 3.1%. Total GAAP consolidated expense, including these items, was up $816 million for the quarter.

Consolidated CASM, excluding fuel, profit sharing programs and certain accounting charges, increased by 1.9% year-on-year in the second quarter against a consolidated capacity increase of 1.1%. Mainline CASM, excluding fuel, profit sharing programs and certain accounting charges, increased by 1.7% in the second quarter, against a 1.6% decline in mainline capacity. Mainline and Consolidated CASM, including these items, were up 21.1% and 19.6% respectively, compared to the year-ago quarter.

Airport expenses, a continuing concern in most C-Suites, increased USD12 million, or 5.2% on increases in landing fee and rental rates at hubs. Adding such expenses from its regionals, the cost increase comes in at USD25 million in the quarter. Total non-fuel operating expense increased by USD154 million year-on-year in the second quarter, excluding certain accounting charges, or 5.2%, as the company continued its efforts to control costs and increase revenue.

Healthy balance sheet - USD5.2 billion in cash

The company ended the quarter with a total cash balance of USD5.2 billion, including an unrestricted cash balance of more than $4.9 billion and restricted cash balance of USD250 million. In the second quarter, the company had scheduled debt and net capital lease payments of USD135 million, and non-aircraft capital expenditures of USD73 million. Scheduled debt and capital lease payments of approximately USD220 million and non-aircraft capital expenditures of approximately USD120 million are expected in the third quarter of 2010.

Guidance: modest improvement seen

"We are clearly on the right path toward our goal of achieving sustained and sufficient profitability across the economic cycle," said Ms Mikells. "While there is much more work needed, our current results, including improvement in unit revenue, cost control, cash flow and profit margin, demonstrate substantial progress against our objective."

The company expects both mainline and consolidated CASM, excluding fuel, profit sharing and certain accounting charges for the full year 2010 to be up 2.0% to 3.0% year-over-year. The company expects consolidated CASM, excluding fuel, profit sharing and certain accounting charges for the third quarter 2010 to be up 3.3% to 4.3% year-over-year.

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