Airlines Reporting Record Profits

It is a great time to be one of the major airlines. The major carriers have been reporting a string of record profits, just as predicted by the International Air Transport Association earlier this year. Back in July, IATA revised its outlook for the industry to predict $29.3 billion in net worldwide profits for airlines, well beyond the $16.4 billion in industry profits in 2014.

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IATA's estimate may actually fall short given the third quarter results from some of the airlines. Southwest Airlines (NYSE: LUV) posted a record profit of $584 million on $5.32 billion in revenue, a significant increase over the $324 million profit on $4.8 billion in revenue in the third quarter of 2014. American Airlines (NASDAQ: AAL) posted their 8th consecutive record quarterly profit with $942 million on a record $11.1 billion in revenues. United (NYSE: UAL) had total revenue of $10.3 billion, a year-over-year decrease but still reported expected pre-tax margins of between 9.5%-11.5%.

All airlines are benefitting from the enormous drop in fuel costs, since fuel costs are one of the biggest airline expenses and one that carriers can do little about aside from negotiating longer-term deals. The nature of locked-in pricing delayed airlines' ability to take advantage of lower fuel prices, but with oil prices remaining unusually low, airlines are now enjoying the benefits of lower fuel costs and likely will do so for some time. Fuel savings for the major airlines are running in the billions of dollars — Southwest predicts $1.3 billion in savings this year and other carriers have seen savings as high as $1 billion per quarter.

Fuel price windfalls are being directed at airlines' bottom lines instead of toward customers through reduced fares. That is for one simple reason — because airlines can. Demand is high enough that airlines do not have to slash prices to keep up their passenger share. In some local markets, intense competition is introducing price pressures — for example, the battles in American Airline's biggest hub market of Dallas has resulted in a decrease in passenger revenue per available seat-mile (PRASM) — but in general, demand is solid.

According to the airlines, a majority of the savings are being reinvested in operations through buying new airplanes and establishing new routes, as well as upgrading facilities throughout the world. It makes sense to apply the current windfall toward upgrades, but shareholders are benefitting as well. American Airlines have been incrementally adding to a share buyback program that totals $6 billion for the year to date.

When one of your main expenses is down for a prolonged period and demand is high enough to keep revenues strong, you should expect great profits, if not record ones. But how long can the party last?

Within the U.S. market, it seems likely to last a while longer. The average net profit per passenger is $18.12 in North America, compared to the world average of $8.27, $6.30 in Europe, and $4.24 in the Asia Pacific region. Average inflation-adjusted airfares are among the highest in over a decade. Oil prices are still well below 2014 values. Meanwhile, individual airlines are finding other bits of positive news. For example, Southwest expects a 1% increase in income over the next few months due to a new series of international routes.

Expect the airlines to continue to take advantage of this environment as long as possible, because they know that at some point, fuel prices will rise and the party will be over. The smart airlines will invest wisely while they can.

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