Since joining airline giant United Continental (NYSE: UAL) last year, company president Scott Kirby and CFO Andrew Levy have pushed a strategy of expanding in smaller cities. The first big batch of new routes associated with this strategy started up in June. Since then, management has made it clear that additional small-city routes would be coming next year.
Sure enough, United Continental announced a new set of routes to small cities last week. However, while its interest in small cities makes sense, United may have trouble competing with Delta Air Lines (NYSE: DAL) and American Airlines (NASDAQ: AAL) in some of these markets, due to its reliance on 50-seat jets.
Continue Reading Below
The logic of smaller cities
Price competition from budget carriers has made American, Delta, and United more reliant on travel to and from small cities in recent years. Routes between big cities have been prime targets for low-cost carriers, driving down fares and making it harder for high-cost airlines to earn good profit margins.
By contrast, network carriers' key competitive advantage over low-cost carriers is that they fly to hundreds of cities across the globe and can connect travelers between all of these destinations. In many cases, the only options for flying to or from a small city are American Airlines, Delta Air Lines, and United Continental. As a result, the fares tend to be significantly higher, leading to stronger profit margins.
Earlier this year, United added four small cities to its route map: Champaign/Urbana, Illinois; Columbia, Missouri; Rochester, Minnesota; and Santa Rosa, California. The carrier is preparing for another wave of expansion in small cities in the first half of 2018.
The next round of expansion
Last Tuesday, United announced that it will launch 10 new routes to small cities next spring. In April, it will begin flying from Chicago to El Paso, Texas; from Chicago and Washington, D.C., to Wilmington, North Carolina; from Denver to Jacksonville, Florida; from Los Angeles to Redmond and Medford, Oregon; and from Newark, New Jersey (just outside New York City), to Elmira, New York. United will operate two daily flights on all of these routes, except for Denver-Jacksonville, which will be served once daily.
In June, United will add seasonal, once-daily flights from Chicago to Fresno, California, and from Los Angeles to Kalispell and Missoula, Montana.
For the most part, these new routes will connect existing United Airlines "spokes" to additional United hubs. However, this round of expansion will also add two more cities to United's route map: Elmira and Wilmington.
Some good moves here -- and some head-scratchers
Several of United Continental's new routes make sense. For example, the time is right to return to Elmira -- a city that the carrier pulled out of in 2016 -- because American Airlines recently exited that market and because United can now fly to its hub in Newark, just 175 miles away. Previously, slot constraints forced United to route its Elmira flights to Chicago, which is nearly 600 miles distant.
Seasonal flights from Chicago to Fresno (which is near Yosemite National Park) and from Los Angeles to Kalispell and Missoula (which are in the Rockies) should benefit from strong tourist demand in the summer. Meanwhile, Jacksonville and El Paso aren't exactly small cities -- multiple budget carriers serve each one -- but connecting them to Denver and Chicago, respectively, will allow United to offer significantly more connecting itineraries.
On the other hand, adding more year-round regional flights in Los Angeles seems like a mistake. United Airlines already flies to Medford and Redmond from San Francisco -- a city that is 250-300 miles closer and offers far more connecting opportunities. United will also face nonstop competition from American Airlines and Allegiant Travel on the Medford-Los Angeles route.
Finally, entering Wilmington with flights to two different hubs seems excessive, given the small size of the market.
50-seat jets could pose a challenge
The biggest problem with United's plan to grow in smaller cities is that it will serve most of its new routes with 50-seat jets. These planes have been falling out of favor for years because they are expensive to operate (on a per-seat basis) and uncomfortable for passengers.
By contrast, Delta Air Lines has significantly reduced its reliance on 50-seat jets by reaching a deal with its pilots to add 88 small (110-seat) mainline jets in exchange for the right to use more outsourced dual-class 70- to 76-seat regional jets. American Airlines also has more flexibility to use dual-class regional jets, which are significantly roomier and feature a full complement of first-class and extra-legroom seats as upgrade options for loyal customers.
As a result, in Wilmington, United Airlines will be competing with 50-seat regional jets against mainline and large regional jets used by American and Delta. People flying to or from Redmond and Medford also have ample access to larger aircraft.
In this context, the choice between United Airlines and either of its competitors will be obvious for most travelers -- and it won't be favorable for United. Thus, a better schedule won't fix United Continental's financial problems if it entails using vastly inferior airplanes.
10 stocks we like better than United Continental HoldingsWhen investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*
David and Tom just revealed what they believe are the 10 best stocks for investors to buy right now... and United Continental Holdings wasn't one of them! That's right -- they think these 10 stocks are even better buys.
Click here to learn about these picks!
*Stock Advisor returns as of November 6, 2017