Dec. 13 (Bloomberg) -- UAL Corp.'s United Airlines and Continental Airlines Inc. are discussing a merger as consolidation in the industry accelerates, two people familiar with the talks said.

The discussions follow US Airways Group Inc.'s hostile $8.67 billion offer for Delta Air Lines Inc. on Nov. 15. Low- cost carrier AirTran Holdings Inc. said today it offered $290 million for Midwest Air Group Inc.

A United-Continental merger would combine the second- and fourth-largest U.S. airlines in terms of passenger traffic, eclipsing AMR Corp.'s American Airlines to become the world's largest carrier. Airlines are consolidating as they recover from a 33 percent drop in travel after the Sept. 11 terrorist attacks.

``We don't need six legacy network carriers in this country,'' said Alan Sbarra of San Francisco-based Roach & Sbarra Consulting. ``We're going to consolidate possibly down to three or four.''

UAL Chief Executive Officer Glenn Tilton has championed mergers since February 2005, and hired Goldman Sachs Group Inc. this year to advise his Elk Grove Township, Illinois-based carrier on possible transactions. Continental CEO Lawrence Kellner has said he wants to remain independent.

The people who confirmed the talks asked not to be identified because the discussions are private.

United spokeswoman Jean Medina said the airline has the right management and business plan, ``and we will participate in consolidation if and when the opportunity is right for our company and our shareholders.''

Dave Messing, a spokesman for Houston-based Continental, declined to comment.

On the Lookout

United and Continental executives probably are watching the progress of US Airways and Delta, said Ray Neidl, an analyst with Calyon Securities Inc. in New York.

``We do not believe a deal between the two companies is certain or imminent,'' Neidl said today in a research note. Broader industry consolidation is likely, he said.

Shares of United rose $2.01, or 4.7 percent, to $45.24 at 4 p.m. in New York in Nasdaq Stock Market composite trading. Continental shares climbed $1.88, or 4.4 percent, to $44.76 in New York Stock Exchange composite trading. Shares of AirTran gained 50 cents to $12.85, and Midwest's shares surged $2.02, or 22 percent, to $11.10.

Credit-default swaps based on $10 million of United's bonds declined 5.8 percent to $374,400 from $397,500, according to data compiled by London-based Credit Market Analysis. Credit- default swaps based on Continental bonds fell 1.8 percent today to $349,800 from $356,300 yesterday, CMA data show.

Credit-default swaps are financial instruments based on corporate bonds and loans that are used to speculate on a company's ability to repay debt. An increase indicates deteriorating credit quality; a decrease signals improvement.

Bonds

UAL's $150 million of 5 percent convertible notes due in 2021 rose about 4 cents to 119.5 cents on the dollar, according to Trace, the bond-price reporting system of the NASD. Convertible notes can be exchanged for stock.

Continental's $200 million of 4.5 percent convertible notes maturing in 2007 gained about 2.6 cents to 113.4 cents on the dollar, Trace data show.

United's hub airports in Chicago, San Francisco and Washington would mesh with Continental's hubs in Houston, Cleveland and Newark, New Jersey. The combination also would merge Continental's strength in Latin America with United's Asia-Pacific routes and access to Heathrow Airport in London.

Northwest's Role

One potential complication in the United-Continental talks is the so-called golden share acquired by Northwest Airlines Corp. in 2001. In settling a dispute over an alliance to sell seats on each other's planes, Northwest got the power to block a Continental merger in cases involving a shareholder vote. If Continental makes an all-cash acquisition, it may avoid the golden-share provision.

Kurt Ebenhoch, a Northwest spokesman, said the Eagan, Minnesota-based airline has ``certain rights regarding certain merger activities'' at Continental and otherwise declined to elaborate.

Initial talks between United and Continental ``are all we've seen so far,'' said Michael Boyd, president of Boyd Group, an airline consulting company in Evergreen, Colorado. ``They've got a long way to go.''

The International Association of Machinists and Aerospace Workers, which represents United ground workers and Continental's flight attendants, said in a statement today it hasn't been approached by either airline. The union pledged to fight for wages, work rules and pension plans for its combined 25,000 members at the two carriers.

Captain Steve Derebey of the United chapter of the Air Line Pilots Association said he needed to talk with the union's chairman before commenting.

Looking at Mergers

The United-Continental talks and US Airways' offer for bankrupt Delta may force AMR's American and Northwest to consider a tie-up, too, said David Swierenga, president of Vienna, Virginia-based Aero-Econ.

``Nobody wants to be left sitting on the sidelines in this,'' said Swierenga, a former chief economist of the Air Transport Association, the trade group for U.S. airlines. Acquiring Northwest, which like Delta is in bankruptcy, would expand American's reach in Asia, Swierenga said.

American declined to comment on its merger outlook.

A US Airways-Delta combination would be larger than American, while still smaller than a United-Continental tie-up.

AirTran-Midwest

AirTran, based in Orlando, Florida, is offering $11.25 a share for Midwest Air. That's a 24 percent premium over yesterday's closing price of $9.08. AirTran first proposed the combination to Oak Creek, Wisconsin-based Midwest in October, and Midwest's board rejected the idea in a letter dated Dec. 6.

``As the two airlines operate much of the same equipment, and both are low-cost carriers, we believe it makes some sense,'' Helane Becker of Benchmark Co. in New York wrote in a note to investors today.

Airline consolidation is quickening in Europe and Asia. Earlier this year, Cathay Pacific Airways Ltd., Asia's second- most profitable airline, bought Hong Kong Dragon Airlines Ltd. to expand into China.

European airlines also are working to acquire rivals to expand networks, increase fares and gain a stronger bargaining position with aircraft and parts suppliers.

Ryanair Holdings Plc, Europe's biggest low-cost airline, has made a 1.48 billion euro ($1.97 billion) hostile bid for Irish rival Aer Lingus Plc, and Alitalia SpA of Italy is in preliminary talks on an alliance with Air France-KLM Group.

Australia's Qantas Airways Ltd., the country's largest carrier, today rejected a A$10.9 billion ($8.6 billion) buyout offer from Sydney-based Macquarie Bank Ltd. and Texas Pacific Group of the U.S. Qantas may agree to the buyout after the bidders sweetened the terms and dropped some conditions, the Financial Times reported.

Bankruptcy Filings

UAL, US Airways, Delta and Northwest, along with numerous smaller carriers, ended up in bankruptcy court to seek protection from rising debt after Sept. 11. US Airways merged with America West Holdings Corp. to exit court protection in September 2005, and UAL emerged on Feb. 1.

Historically high jet fuel costs in the past two years made the industry's recovery more difficult. A gallon of jet fuel for immediate delivery in New York Harbor averaged 86.49 cents in 2003, for example, compared with $1.95 so far this year.

A rebound in business travel this year, coupled with savings wrung in court or amid the threat of a bankruptcy filing, may help the U.S. industry post its first collective profit since 2000. U.S. carriers lost more than $40 billion from 2001 through 2005.

The Wall Street Journal and New York Times reported the United-Continental talks earlier.

To contact the reporters on this story: Mary Schlangenstein in Dallas at maryc.s@bloomberg.net; Eric Torbenson in Dallas at etorbenson@bloomberg.net.

Last Updated: December 13, 2006 17:36 EST