United Airlines’ growth strategy seems too ambitious
Llast week, United Airlines Holdings (NASDAQ: UAL) announced a massive aircraft order and a bold new five-year plan. The airline giant plans to grow significantly while shifting its fleet to much larger planes by 2026 to improve profitability.
Management clearly recognizes the major shortcomings that have weighed on United Airlines’ financial performance over the past decade. The company’s growth plan addresses these issues head-on. But its planned expansion is likely to create new problems, as it will flood the domestic travel market with capacity.
Extraordinary growth plans
United Airlines announced two large aircraft orders Tuesday. He will purchase an additional 50 737 MAX 8 and an additional 150 737 MAX 10 at Boeing, as well as 70 A321neo from Airbus. These agreements are in addition to United’s nearly 300 pending orders for airliners as of March 31: 180 737 MAX jets and nine 787-10 Dreamliner from Boeing, as well as 50 A321XLR and 45 A350-900 from Airbus.
Most of these jets will arrive by 2026. In fact, United now has 138 aircraft deliveries scheduled for 2023 alone. About 300 of the nearly 500 deliveries coming by 2026 will replace older, less efficient jets. . But most of the decommissioned jets are 50-seat single-class regional jets, while the bulk of new deliveries are 737 MAX 10s and A321neos that will likely be able to accommodate 190 to 200 seats each.
A United Airlines 737 MAX 9. Image source: United Airlines.
As a result, the combination of increasing the number of fleets and moving to much larger jets will increase United Airlines capacity at a compound annual rate of 4% to 6% through 2026, compared to 2019.
It may not seem particularly fast. But the demand for air travel to the United States will not fully return to 2019 levels until at least 2022. At the midpoint of its target range, United’s capacity in 2026 is said to be up 41% from 2019, with growth double digits in 2023 and rapid capacity expansion continuing in subsequent years.
What will happen to the tariffs?
Replacing small regional jets with large, narrow-body planes will increase United’s average number of seats per departure in North America by 104 in 2019 (the least of all big airline) to 134 by 2026. This will help it reduce its non-fuel unit costs by 8% and increase its energy efficiency by 11% from 2019. On the other hand, such rapid growth could weigh on average rates.
The carrier hopes to ease this price pressure in several ways. First, the transition of its fleet will increase the proportion of premium seats (which command higher fares) in its domestic fleet. Second, by operating more flights at each bank in its major hubs, United will significantly increase the number of feasible connecting routes. This should help it gain market share, other things being equal. Third, the aircraft replacement program and cabin upgrades for the remaining fleet will improve the customer experience, making United a more desirable airline to fly.
Management estimates it could generate an adjusted pre-tax margin of 14% by 2026, up from 9.4% in 2019, even though unit revenue remains 1% below 2019 levels at that time. The carrier considers this objective to be prudent.
Source: United Next investor presentation. TRASM = total revenue per available seat mile. CASM = cost per available seat mile.
However, United Airlines is forecasting unprecedented growth for an airline of its size. Meanwhile, there is very little chance that the demand for travel to the United States will increase by 40% or more by 2026. Indeed, it is possible that business travel will return to 2019 levels only. around that date. And his rivals won’t let him gain massive market share without a fight. Thus, United’s growth plan could result in far greater rate erosion than management anticipates, offsetting the benefit of its unit cost reductions.
Exit on a member
To carry out its growth plan, the airline plans to increase its adjusted capital spending from $ 4.5 billion in 2021 and $ 4.2 billion in 2022 to an impressive $ 8.5 billion in 2023. Investments are likely to remain high at least until 2026.
Despite these heavy capital expenditures, management says adjusted net debt will reach $ 25 billion over the next few years. By 2026, United’s plans that have adjusted net debt will fall below its pre-pandemic level of $ 18 billion.
Still, if demand grows less than expected or if the company’s rapid growth sparks price wars, unit revenue and profitability could be well below United’s targets. This would cause a decrease in cash flow, resulting in an increase in the indebtedness of the company. While the airline may change course and withdraw other mainliners to slow its rate of growth, it still runs the risk of having much larger debt and lower profits than expected in a few years.
If all goes exactly as planned for United Airlines, the airline giant’s shares will skyrocket over the next five years. However, I am skeptical of its ability to grow as much as it expects without dropping its prices significantly. Investors should probably stick with the proven winners in the airline industry for now.
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