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U.S. Airline Concerns Seen As Overblown

Recent concerns that Gulf airlines' aggressive expansion will weaken profits at major U.S. airlines may be overblown, given the stronger domestic economy and slower capacity growth.

Last month's profit warning from Lufthansa, which said excess capacity from the Gulf is hurting prices, triggered the worries. It was followed by similar capacity concerns from Delta Air Lines (DAL) and Air France.

Shares of global carriers, including United Continental (UAL) and American Airlines (AAL), tumbled. But aviation industry analyst Robert Mann, president of R.W. Mann & Co., told IBD that European carriers face different issues than U.S. peers do.

"It globalizes something that is a regional issue," he said. "The U.S. business travel market is far more robust than what is going on in Europe and elsewhere.

U.S.-Europe Split

That sentiment was reinforced Wednesday when American raised its Q2 margin outlook to 12%-13% from its May forecast of 10%-12%. It narrowed its unit revenue growth view to 5.5%-6.5% from 5%-7%.

In a note Wednesday, Deutsche Bank analyst Michael Linenberg said U.S. airlines are benefiting from a "benign" domestic capacity outlook, strong pricing, an improving economy, and the "perception that domestic travel is inherently safer.

U.S. carriers also don't plan to grow trans-Atlantic capacity by more than 5% for the rest of the year, while European peers plan to add 11%-12%, he noted.

Rather than what's happening internationally, the domestic market may be a greater source of competitive pressure.

In June, Delta cited industrywide capacity increases and Latin American business travel softened by the World Cup when it reported unit revenue that missed forecasts.

But Mann says that Delta's real issue is increasing competition from a revamped American and a slowly improving United. "Delta has had the four- to five-year role of being the top network, but now they are seeing that position being attacked by United and American.

Long Haul For Less?

Meanwhile, Lufthansa has responded to capacity increases from Gulf carriers by announcing plans Wednesday to slash its own capacity growth and sideline 10 aircraft on European and cargo routes this winter.

The carrier will also offer a budget long-haul service and may partner with Turkish Airlines on the endeavor, which could launch in the winter of 2015.

Mann sees the low-cost service announcement as a distraction from the core issues facing airlines like Lufthansa as the European economy struggles.

"These companies don't end up as low-cost companies," he said. "Instead, they end up with baggage and overhead and the same institutional issues associated with the parent firm.

"Rarely can they achieve labor costs advantages like a real low-cost carrier.

Lufthansa's long-haul, low-cost service "will slow the bleeding to Middle Eastern carriers but it's not going to stop it completely," said George Dimitroff, the head of valuations at Ascend Worldwide.