UAL-Continental Merger Would Lead on Higher-Fare Routes Abroad

United and Continental jets on the tarmac
A Continental Airlines jet, foreground, is parked near a passing United Airlines plane at O'Hare International Airport in Chicago on April 16, 2010. Photographer: Tim Boyle/Bloomberg

A merger between UAL Corp.’s United Airlines and Continental Airlines Inc. would create the largest U.S. carrier on routes across the Atlantic and Pacific where business fliers pay some of the industry’s highest fares.

The companies together would pass Delta Air Lines Inc. for the top spot in the U.S. industry across the Atlantic, with 40 percent of the passenger traffic, and grab 53 percent of traffic across the Pacific, where United already leads, based on data compiled by Bloomberg.

UAL and Continental are holding talks on a tie-up, a person with direct knowledge of the meetings said April 15. Broader networks help funnel in more travelers and attract corporate customers who fly between airports such as San Francisco and Tokyo’s Narita, or Newark, New Jersey, and London’s Heathrow.

“A combined United-Continental would be No. 1 in trans-Atlantic and trans-Pacific and have a significant presence in the key New York region, Chicago, Houston and Los Angeles,” said Jeff Straebler, fixed-income strategist at RBS Securities Inc. in Stamford, Connecticut. “Who else could make a transformative combination?”

The talks between United, the third-biggest U.S. airline by traffic, and No. 4 Continental may derail United’s discussions about a merger with US Airways Group Inc.

Blending the route systems of United and Houston-based Continental would produce two hubs at U.S. East Coast business centers, United’s at Washington Dulles and Continental’s at Newark. Chicago-based United’s routes include flights between Washington and Moscow, a city not served by Continental.

United and Continental would take second place in Latin America, narrowing American Airlines’ advantage, based on data compiled by Bloomberg.

No Discounters

U.S. airlines prize flights across the Atlantic and Pacific because there is no competition from domestic discounters such as Southwest Airlines Co., and the corporate travelers who often fly at the last minute pay an even bigger premium for a first-or business-class seat when going abroad.

For example, a walkup round-trip business-class fare on United from San Francisco to Tokyo was $5,504 on April 15, compared with $750 for San Francisco-Chicago in coach, according to the airline’s Web site. Continental charges $6,298 for a round-trip walk-up business class fare from New Jersey’s Newark to Frankfurt, while Newark-Los Angeles is $1,217 in coach.

International Revenue

Both Continental and United get more than a third of their revenue from international flights. Continental derived 45 percent of its $12.6 billion in 2009 revenue from those flights, and United got 37 percent of its $20.2 billion in 2008 revenue, the most recent year available, from outside the U.S. and Canada.

Continental and United also rank one-two in the U.S. industry in the share of their traffic flown on international routes this year, at 52 percent and 47 percent, based on data compiled by Bloomberg. Continental is No. 2 across the Atlantic, behind Delta, and United is No. 3.

“Continental-United would be a more compelling option, with less network overlap and a stronger international network,” Jim Corridore, a Standard & Poor’s equity analyst in New York, said in an April 15 note. He advises holding UAL and rates Continental as “strong buy.”

The talks restart merger negotiations that collapsed in 2008 when Houston-based Continental decided to stay independent. Continental later joined the Star Alliance group of airlines led by Chicago-based United.

Continental began studying options last week after the United-US Airways negotiations were disclosed, another person said at the time. A United spokeswoman, Jean Medina, and Continental’s Julie King declined to comment on whether the carriers were in talks.

Airline Shares

UAL slid 71 cents, or 3 percent, to $22.83 in Nasdaq Stock Market composite trading yesterday, ending six daily gains, as U.S. stocks fell. Continental dropped 79 cents, or 3.3 percent, to $22.98 on the New York Stock Exchange. UAL has climbed 77 percent in 2010, while Continental is up 28 percent.

Continental CEO Jeff Smisek, 55, said in March he was open to a tie-up if the carrier needs to “bulk up defensively,” while United CEO Glenn Tilton, 62, has championed mergers since before the airline left more than three years in bankruptcy protection in February 2006.

UAL is the third-largest U.S. airline by market value, at $3.78 billion, and Continental is No. 4, at $3.17 billion, based on data compiled by Bloomberg. Delta grabbed the top spot in the U.S. industry by traffic and market value after buying Northwest Airlines Corp. in 2008, and Chief Executive Officer Richard Anderson has focused on adding international routes.

‘Fiduciary Duty’

Continental had a “fiduciary duty to shareholders” to pursue United, Hunter Keay, an analyst at Stifel Nicolaus & Co. in Baltimore, told clients in an April 15 note. Staying independent means “Continental’s network could be marginalized by a powerful Delta.”

Keay upgraded Continental to “buy” from “hold” this week on the likelihood of a bid for United. He also rates UAL as a buy.

Continental’s U.S. hubs are in Houston, Cleveland and Newark, while United’s are in Chicago, San Francisco, Denver and Washington. United also is No. 2, behind AMR Corp.’s American, at Los Angeles International Airport, based on U.S. Transportation Department data.

Meshing the airlines’ main jet fleets would produce a mix of Boeing Co. and Airbus SAS planes. Continental flew 351 Boeings as of Sept. 30, according to a Web site fact sheet. United’s 360 planes are drawn from both manufacturers.

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