United's Cleveland Hub Closure Is an Added Plus for Airlines as Industry Consolidates

CLEVELAND (TheStreet) -- Cleveland may not be happy with the loss of its United (UAL) hub, but airline analysts applauded the move, widely seen as both inevitable and beneficial not just for United but for other carriers as well.

"We've been waiting for this," wrote Wolfe  Research analyst Hunter Keay, in a report issued Wednesday. "We thought an announcement of a hub closure could come at [United's] November analyst day."

Imperial Capital analyst Bob McAdoo said the Cleveland hub closure means that "Cleveland will no longer compete for traffic with United's other hubs" or with flights operated by other carriers.

"Benefits associated with the reduction in Cleveland service will be shared across the industry," McAdoo wrote in a report issued Tuesday, noting that passengers who had connected through Cleveland are now likely to connect through Philadelphia to the east, Atlanta and Charlotte to the south and Chicago or Minneapolis to the west.

"In addition, local Cleveland passengers will gravitate towards Delta (DAL) service to Atlanta and Minneapolis and American Airlines (AAL) service to Charlotte, Miami and Philadelphia," he said.

United said Saturday that it will reduce Cleveland daily departures by about 60% between April and June. Capacity will decline 36%, with 70% of regional flights eliminated. Mainline flying will be minimally impacted. In fact, just one of United's 26 daily mainline Cleveland departures will end. Ciities losing service will include Atlanta, Charlotte, Minneapolis and Philadelphia as well as regional destinations like Nashville, Providence, Syracuse and Harrisburg.

Cuts will occur April through June, leaving 72 daily Cleveland departures to 20 destinations.

Fitch Ratings also applauded the move, saying it has positive credit implications for United, which is seeking to cut $2 billion from its annual costs by 2017.

"We believe the changes in Cleveland make strategic sense given that much of the flying out of that hub is done on 50-seat regional jets," Fitch wrote in a note. "Small RJs have become less attractive from a unit-cost perspective in recent years as fuel prices have remained high, making the changes in Cleveland positive from a cost per available seat mile standpoint.

"Cutting money-losing routes follows an industry trend of rationalizing capacity to increase return on investment capital, a practice that has played a large role in increasing the stability of U.S. carriers," Fitch said.

The ratings firm said it expects that United's cost-cutting will enhance operating margins, which have lagged industry peers in recent years, while Keay wrote that "we believe United's network is a big reason why its margins lag peers.

"United's margins lag Delta's margins (because) United doesn't dominate its key hubs like Delta does (or even like Continental did before the merger, for that matter)," Keay wrote. "We believe de-hubbing CLE will be modestly accretive to FY EBIT margins (20 basis points), but the willingness to do it shows that hard decisions (and this was surely hard) are being made, and that more may come."

Keay has an outperform on United and a $59 price target, while McAdoo has an outperform and a $55 target. In late morning trading on Wednesday, United shares were down 46 cents to $43.51. Shares are up 15% year to date.

As a Continental hub, Cleveland had competed with United's hub in Chicago, and McAdoo said it "has continued to cannibalize traffic from both Chicago and Newark.

"Closing geographically similar hubs has been a strategy that has been successfully implemented by competitors," he wrote. Delta reduced operations in Cincinnati after acquiring the Detroit hub in the Northwest merger, he said. US Airways closed its Pittsburgh hub, funneling traffic to Philadelphia and Charlotte.

In a letter to employees that was released Saturday, United CEO Jeff Smisek said the Cleveland hub "hasn't been profitable for over a decade, and has generated tens of millions of dollars of annual losses in recent years." 

"The demand for hub-level connecting flying through Cleveland simply isn't there," he said. 

The timing of the decision, Smisek said, was accelerated by new federal regulations regarding pilot scheduling, requiring the hiring of more pilots by mainline carriers and reducing the pool of pilots available to regional carriers who fly the bulk of United's Cleveland schedule.

On Wednesday, the Air Line Pilots Association issued a press release denying the "myth" that a pilot shortage exists.

"There may be a shortage of qualified pilots who are willing to fly for U.S. airlines because of the industry's recent history of instability, poor pay, and benefits," said ALPA President Lee Moak, in a prepared statement. "But thousands of highly qualified and experienced U.S. airline pilots are either furloughed or working overseas and eager to return to U.S airline cockpits-under the right conditions."

ALPA said the average first officer starting salary at 14 regional airlines is $21,285 annually plus benefits. Delta and United start first officers at $61,000 annually plus benefits, while Emirates starts first officers at $82,000 annually plus benefits. Moak said the solution is for Congress to "implement pro-growth aviation policies that reduce the tax burden on airlines and give the industry an opportunity to compete and prevail in the international marketplace."

Wrtten by Ted Reed in Charlotte, N.C.

To contact this writer, click here.

Follow @tedreednc

More from Stocks

Markets Look Confused After Latest Beating

Markets Look Confused After Latest Beating

General Electric Expulsion From Dow Symbolizes Unsettled Week in Markets

General Electric Expulsion From Dow Symbolizes Unsettled Week in Markets

How Small-Cap Stocks Can Protect Your Portfolio From a Trade War

How Small-Cap Stocks Can Protect Your Portfolio From a Trade War

Week Ahead: Trade Fears and Stress Tests Signal More Volatility To Come

Week Ahead: Trade Fears and Stress Tests Signal More Volatility To Come

3 Great Stock Market Sectors Millennials Should Invest In

3 Great Stock Market Sectors Millennials Should Invest In