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Transportation

What's Ahead for the Big Four Airlines

Ted Reed

09/30/10 - 08:20 AM EDT

ATLANTA TheStreet) -- A merger pushed the price of AirTran (AAI) shares up 61% on Monday, but most airline investors are not so lucky.

They can only hope for the best in an industry that has lost money since the Wright Brothers first flew an airplane. Some think the historic pattern may be broken, given capacity reductions over the past few years and, so far, an unprecedented level of discipline in maintaining them.

The situation has led veteran Avondale Partners analyst Bob McAdoo to issue market outperform ratings on every network airline.

But some other evaluations are more discreet. Here is a look at analyst views on the four biggest airlines that will remain following pending mergers that would unite United (UAUA) with Continental (CAL) and Southwest (LUV) with AirTran. American

American (AMR), the only one of the big three carriers not to make a deal recently, is plagued by relatively high labor costs and was the only major carrier to lose money in the second quarter. It is, however, expected to show a third-quarter profit. Its shares are down about 17% this year.

Nevertheless, JPMorgan analyst Jamie Baker has a $12.50 price target and an overweight ranking on the shares. Responding to recent revenue per available seat mile guidance that was below expectations , Baker said he expects "gradual strengthening" because American expects a $500 million increase in annual income from joint ventures across the Atlantic and, pending approval, the Pacific. Delta

Shares in Delta (DAL) are trading almost exactly where they were trading at the start of 2009, when they opened the year at $11.31. So much for merger synergies!

But several analysts like the stock. Helane Becker of Dahlman Rose has a buy and a $16 price target. Mike Derchin of CRT Capital has a buy and a $19 price target. Analysts raised estimates two weeks ago after Delta reported surprisingly strong margins and revenue per available seat mile growth during the third quarter.

Opinions vary on whether Southwest's takeover of AirTran and its Atlanta hub will impact Delta. Stifel Nicolaus analyst Hunter Keay said Southwest will be far more aggressive in Atlanta than AirTran has been.

"We believe this could be problematic for Delta," Keay wrote in a report. But Baker said the impact will be minimal, writing, "It is difficult for us to work up a sweat on this topic." United

United shares are up about 75% this year. The market likes the merger with Continental, which was announced in May, not to mention the speedy approval that came less than four months later.

Analysts are split on whether United can quickly capitalize on the merger. Standard & Poor's analyst Jim Corridore has a buy on the shares and a $34 price target. The merger "will give the combined carrier an improved international route map with the potential for cost and revenue synergies," he wrote, in a recent report. He also thinks the industry's biggest market share will enable a RASM premium. Southwest Airlines

Southwest shares are up about 15% this year. The AirTran takeover was generally well received, but it does raise questions. For instance, Southwest will take over a hub operation in Atlanta. Southwest does not like delays, but hubs at busy airports are routinely impacted by delays. Southwest does like growth, but it has grown so big that the only place it can really generate impactful growth is at big airports -- so let's try on the world's biggest airport for size!

Southwest said it will have one-time costs of $670 million in cash paid to AirTran shareholders (with another approximately $700 million paid in stock) plus $300 million to $500 million in one-time transition costs. In return, the carrier gains annual synergies in excess of $400 million by 2013. Avondale Partners analyst Bob McAdoo called the deal "s strong positive" for Southwest, which will be able to expand into the East where it "has only modest penetration and to make that entrance in a relatively smooth, efficient manner."

Meanwhile, Soleil Securities analyst James Higgins wrote Tuesday that he is raising his target price for Southwest to $14 from $12 because he now estimates 2013 earnings of $1.30 a share. But he retains a hold on the shares, as does Keay. Higgins said the acquisition will not "substantially increase Southwest's longer-term growth rate after the merger benefits are realized, and in the meantime we expect significant deceleration in EPS gains."

--Written by Ted Reed in Charlotte, N.C.

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