In early June, Delta Air Lines reached a tentative agreement with its pilot union on a new contract, more than six months before the current contract's amendable date. (Airline labor contracts never formally expire.)
The tentative agreement included an immediate 8% pay raise upon ratification, followed by a 6% raise in 2016 and 3% raises in 2017 and 2018. In exchange, the union agreed to a revised profit-sharing structure that set a new pre-tax profit threshold of $6 billion (up from $2.5 billion) for moving from an initial 10% profit-sharing rate to a 20% profit-sharing rate. The deal also included some productivity improvements.
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Delta Air Lines recently offered big raises to its pilots.
Still, considering that Delta pilots were already the best paid among commercial airlines, this seemed like a good deal for them. But in voting that ended last Friday, the Delta pilots rejected the tentative agreement in a surprisingly lopsided decision: 65%-35%.
A solid raiseAgreeing to lower profit-sharing payouts would have represented a significant concession for the pilots, but they still would have come out ahead. The union characterized the agreement as providing an 8.74% pay raise, in addition to converting uncertain profit-sharing payouts into fixed pay rates.
Furthermore, based on Credit Suisse estimates, Delta pilots' hourly pay rates would have ended up 3.5% higher than those of American Airlines, which just recently matched Delta for the best pay scale in the industry. But American Airlines has no profit-sharing. Thus, even with a lower profit-sharing formula, the Delta pilots would have come out far ahead.
Back to the futureSo why did the Delta Air Lines pilots so overwhelmingly reject a deal that would have given them the highest pay in the industry? Clearly, part of the explanation has to do with Delta's soaring profitability.
In 2012, when the most recent pilot contract was signed, Delta's adjusted pretax income was $1.6 billion. By 2014, adjusted pretax income had soared to $4.5 billion. And thanks to the significant drop in fuel prices over the past year, analysts expect pretax profit to easily surpass $6 billion next year.
Delta's generous profit-sharing formula is already causing it to share the wealth with its pilots and other employees. However, it's understandable that the pilots want to share even more in the company's upside.
A second (and related) reason for the pilots' intransigence is that many still remember the good old days of the late 1990s and early 2000s, before the long string of legacy carrier bankruptcies. During that period, pilots for the big carriers earned even more than they do now, had lucrative pensions, and enjoyed other benefits that they have since lost. Many Delta pilots want to get back to that level of compensation.
It's a brave new worldHowever, the pilots are unlikely to get their wish. While jet fuel prices have fallen significantly in the past year, the $1.50-$2-per-gallon wholesale prices that have prevailed in 2015 are far above the low of $0.30 per gallon reached in late 1998. (Jet fuel prices didn't sustainably break through the $1-per-gallon level until 2004.)
Meanwhile, the average domestic airfare in 2014 was only 16% higher than in 2000 in nominal terms, according to DOT data. In real, inflation-adjusted terms, the average airfare was down 16% over that time period. Based on the financial results reported so far in 2015, the average domestic airfare is likely to decline significantly this year.
Real airfares have declined in spite of significantly higher jet fuel costs due to competition from low-cost carriers (which represented a tiny sliver of the industry in 2000) and ultra-low-cost carriers (which didn't even exist then). This competition forced legacy carriers to reform their own cost structures, including by capping or eliminating pension obligations and reducing pilot pay to more affordable levels.
Delta can afford to give pilots a raise. However, it can't afford to go back to the old days, particularly if a big pilot raise forces it to give other employees big raises as well. Otherwise, it could find itself stuck with uncompetitive costs and facing financial trouble when the current airline boom cycle ends -- as it inevitably will one day.
The article Delta Air Lines Pilots Spurn Industry-Leading Pay originally appeared on Fool.com.
Adam Levine-Weinberg is long November 2015 $40 calls on American Airlines Group and long January 2017 $40 calls on Delta Air Lines. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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