Turbulent times ahead for airlines

As the quarterly financial results from US airlines roll in, Sally White considers what the slide of a key metric means

The blue skies should be clear for airlines but they are not. Fuel bills may be a fraction of those two years ago but there are some nasty headwinds appearing.

The latest US quarterly financial results show that airlines there are struggling on the key metric of revenue per seat (PRASM) triggering fears of higher fares.

Leading low-cost US airline JetBlue has just announced a fall of 10.5% in February’s revenue per seat. That scuttled its share price, sending it down 7% and taking the rest of the budget airline sector with it.  Spirit Airlines fell over 5% and Southwest Airlines dropped less, at just over 1%. 

Industry analysts on Wall Street are saying that the buoyant travel market may have tempted airlines into adding too many seats or too many routes. Anyway, the New York Stock Exchange airline index fell 3.5% on the JetBlue news. It had already been trending down, as investors have been getting pessimistic about the money to be made from airlines now cheaper oil is yesterday’s news. It slumped by 16% over 2015, a sharp contrast to the 30% rise in 2014. That is bad for airline credit rating and borrowing capacity.

…the buoyant travel market may have tempted airlines into adding too many seats or too many routes

American Airlines share price has been falling despite its announcement that passenger traffic was up 4.7% in February. The reason is that traffic undershot its capacity increase, which was up 8%. Plus, the major US airline says first quarter revenue per available seat mile will decline by between 6-8%. Virgin America, whose fares dropped almost 9% in the fourth quarter of 2015, projects its PRASM to decline in the range of 3-5% in first quarter 2015. United Continental expects its PRASM to fall by 6-8%.

Profits rising so what gives?

As US broker Zacks research pointed out, this is just another of the gathering pieces of bad news for airline investors. There are fears about traveller number trends, despite the bullish long-term forecasts from the International Air Transport Association (IATA). Apart from terrorism, there are threats posed by the spread of the Zika virus and worries that consumers’ purse strings may be tightening.

Who’d have thought seat revenue mattered when profits are rising! IATA expects the aviation industry to register net profits of $33 billion in 2016, which is double 2014’s figure. Plus, it sees the bulk of those profits coming from North America. However, markets see the PRASM numbers as a guide to the future.

Markets see the PRASM numbers as a guide to the future.

Indeed, last year’s average earnings growth moved into negative territory in the year, according to the Zacks forecasts. The picture is gloomier for the first quarter of 2016 with both earnings and revenues projected to contract on year-over-year basis at 0.9% and 0.6% respectively

Meanwhile, IATA is not being entirely reassuring as traffic growth is easing (although it expects this to be temporary). At the moment, it says, capacity growth is very close to traffic growth. Analysts point out that if that trend continues, then airlines will have to do something to pull in more money - such as raise fares. 

At the same time airlines’ bills are rising. Year-end announcements from Delta, United Continental, Southwest Airlines and Alaska Air Group ALK all showed that wages and related costs were all going up. In fact, they had pushed fuel expenses into second place.

Also clear was that in was cutting ticket prices by 15% last year in response to lower oil (again, according to the Department of Labour) that did the damage to industry revenues.  Airlines have not been able to generate enough sales to compensate. PRASM woes were mainly responsible for the NYSE Airline index shedding over 17 per cent of its value over the past year, despite the benefit of low oil prices, commented Zacks.

This is not good news, for US airlines in particular - apart from rising wage bills they are buying new planes and some are still paying off a legacy of debt. Yet with oil prices continuing to be weak there is a cacophony of protest from the likes of the US Business Travel Coalition that fares are trending up, and that is not good for business. 

Other pressures

Fares are already rising. The US Department Labour Statistics said fares were up 1.2% in January compared to December, though still down 1.7% on a year ago. It said this year’s rises on domestic flights fares came as the major airlines responded to staffing costs. Delta and then American Airlines, United Continental and Southwest have all raised prices, the first cross-industry moves since last June.

…post industry consolidation, the US carriers are losing market share to ultra-low-cost lines

There is another pressure on legacy airlines. While competition is less aggressive these days, post industry consolidation, the US carriers are losing market share to ultra-low-cost lines, such as Spirit. (Spirit grew by 30% last year.) So, to protect market share the majors are also vying with cheap offers - smaller seats, less space, no refunds, no free carry-on bags, no advance seat booking, etc are being introduced. Of the majors, Delta has been the first to introduce ‘basic’ economy - old economy is now ‘Main Cabin’. United has announced that it is to follow suit.

Historically turbulence seems the fate of airlines - which is why they are not investors’ favourite. When demand for travel is as strong as now, as Melanie Hinton of trade body Airlines of America says, it is inevitable that they “seek to maximise benefits for multiple stakeholders.” For those looking for clues for the direction of fares, right now it seems to be the turn for benefits of employees and shareholders.

Related Reads

comments powered by Disqus