Four months ago several large air carriers said they were in no rush to start hedging against further price increases in crude oil and fuel. Now they may be starting to regret this decision: almost all major airline stocks are down on higher oil, and the price rise has pressured their earnings.
In its first-quarter report released yesterday, American Airlines said higher fuel costs had dented its revenues, increasing its expenses by US$412 million, with the average fuel price 23.6 percent higher in the first quarter of 2018 from a year earlier. For the full year, AA may have to cough up an additional US$2.3 billion in fuel costs if prices stay higher.
AA is no an exception. United Airlines reported a 26-percent increase in fuel costs over the first quarter in its latest financial report, with the average price per gallon of fuel almost 23 percent higher than in Q1 2017. Despite this, United beat analyst expectations for revenues and profits, but not everyone had the same luck. Delta's earnings fell in the first quarter despite record-high revenues on the back of higher fuel costs, which were 20 percent higher than a year earlier.
Usually, fuel costs constitute almost a third of airlines' total costs, and over the past 10 months or so they have gone up by 60 percent, according to AA's chief executive Doug Parker. This may be the time to start regretting that reluctance to start hedging prices, but it looks like airlines are not yet in a rush to raise air fares. But they might have to if Brent rises much higher.
Related: Is Saudi Arabia Losing Its Asian Oil Market Share?
In February, when both benchmarks were still below US$70, the CEO of the International Air Transport Association (IATA), Alexandre de Juniac, told Bloomberg TV that the current range of oil prices-$60-$70-is an "acceptable" range. The IATA forecasts that oil prices will stay within this range this year, but if they rise too much over $70, it would result in increases in ticket prices, as usual, de Juniac said. "It puts pressure on costs and it is more a fare inflation trigger," the IATA chief executive said on the sidelines of the Singapore Airshow.
There are two ways for airlines to manage these higher costs. One is to raise fares, of course, but no single airline can do this on its own: it would be a futile move as passengers just switch to the cheaper rivals. A fare rise needs to be the result of a concerted effort, and we might see this effort soon enough in the absence of an oil price correction. The other is to reduce utilization flying: increasing the hours of flying per day per aircraft, hence increasing its utilization rate.
Nothing will be done urgently, though, judging by AA's CEO's attitude as expressed during the company's conference call. Summer season is coming, and no airline will rush into making changes to flight schedules on such a short notice.
A recent note to investors by JP Morgan had the same message. Cited by Forbes, the note said that airlines will likely opt for capacity reduction in response to higher oil prices, based on what they have done in the past. Raising air fares will likely be a last resort in the age of massive competition for passengers.
By Irina Slav for Oilprice.com
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Irina is a writer for Oilprice.com with over a decade of experience writing on the oil and gas industry. More
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Comments
With the first hint of oil prices rising above the $70- a-barrel level, airlines may consider a concerted effort to raise passenger fares in order to manage higher costs of fuel.
This begs the question as to whether such a proposed action by airlines defending their interests and profits is different from OPEC members taking action through production cuts to bolster oil prices and thus defending their national interests. While fuel costs account for almost a third of airlines’ total costs, oil revenues constitute 85%-90% of budget revenues of OPEC members.
And yet, President Trump did not hesitate to attack OPEC members and Saudi oil because of rising oil prices. Will he then attack US airlines if they collectively decide to raise their passenger fares. I personally doubt such an action from a president whose motto is “America first”.
Dr Mamdouh G Salameh
International Oil Economist
Visiting Professor of Energy Economics at ESCP Europe Business School, London