Going into 2013, the outlook for the global airline industry
is likely to remain clouded by the uncertain economic backdrop,
particularly the unsettled European situation. These factors are
expected to offset the positive impacts from increased passenger
traffic and an improved freight market.
The International Air Transport Association (IATA) - an
international trade body of a group of airlines, comprising 84%
of the worldwide air traffic - projects overall airline profits
of $4.1 billion for 2012 as compared with the earlier forecast of
$3.0 billion. The outlook, however, is less than $8.4 billion
earned in 2011 and $16 billion earned in 2010. Net profit margin
is expected to be 0.6%, up slightly from the previously estimated
The 2013 profit expectation is much higher at nearly $7.5
billion, buoyed by the introduction of an improved fleet along
with a more efficient operating base and various alliances.
Profit margin for the year will be around 1.1%.
North American airlines show strong growth prospects for the
coming months courtesy of tight capacity, rising travel demand
and a number of new and enhanced ancillary revenues. The carriers
are performing impressively in terms of customer service
including on-time arrivals, baggage handling, fewer customer
complaints, lower cancellations and overbooked flights. As a
result, they are expected to generate $1.9 billion in profits in
2012, up $400 million from the previous expectation.
These carriers are expected to record a profit of $2.3 billion in
2012, much more than the previous forecast of $2.0 billion. IATA
expects to see better cargo performance and an improvement in
Chinese economic conditions. Notably, this is the highest
profit-producing region in the industry outside of the home
Middle East & Latin America:
Per IATA, profits from the Middle East carriers are expected to
grow to $700 million, up from the prior expectation of $400
million. Profit projection for the Latin American carriers was
reiterated at $400 million.
African air carriers are expected to break-even in 2012, better
than the prior loss forecast of $100 million.
As for the European airlines, the IATA expects this year's loss
to widen to $1.2 billion (previous forecast was loss of $1.1
billion) given intensifying Eurozone woes, continued weakness in
cargo and passenger businesses, higher taxes and unfavorable
Underlying Factors for 2013 Profits
In the base-case scenario, there are several factors that will
drive overall airline profits in 2013:
Passenger & Cargo:
While the economic slowdown in several European countries and in
the U.S. will keep travel growth at check, markets in Asia, Latin
America and the Middle East would continue to boost growth in
2013. IATA projects global airline passenger growth of 4.5%,
while cargo business will see an expansion of 2.4%.
Coming to demand-supply balances, demand (measured in traffic)
will outpace capacity (combined passenger and cargo) as the year
advances. Capacity is expected to show an increase of 3.8% while
air travel demand is expected to see a 3.9% pickup.
Fuel Price Rise:
Airline profit outlook depends on fuel prices, the major variable
component in the industry.
Lower fuel price no doubt cuts the airlines' operating expenses,
but it also indicates a slowing economy and the consequent fall
in global air travel demand. With pricing decrease or increase
(as it did by 15% in the third quarter of 2012), the
profitability level of the carriers will fluctuate.
The Association projects fuel to account for 32% of the overall
operating costs in 2013, which is at a similar level with the oil
price spike in 2008.
High crude oil prices, largely a function of geopolitical forces,
are beyond the control of the airlines. However, IATA expects
crude oil price to hover around $105 per barrel in 2013 using
Brent crude oil as a basis. We expect crude oil and jet fuel
prices to go up further because of the economic-political
tensions in many parts across the globe, but forecasting this key
variable with any level of accuracy has always been extremely
Getting Rid of Unprofitable Jets:
Most of the air carriers at large are scrapping or cutting
flights in many small airports that are unprofitable in order to
reduce their fuel cost burden. North American carriers lead the
way in capacity discipline.
Over the last two years,
Delta Air Lines Inc.
United Continental Holdings Inc.
US Airways Group Inc.
) and American Airlines - a subsidiary of AMR Corp. - slashed
their capacity by about 16.6%, 16.3%, 14.3% and 8.4%,
respectively as per the Centre for Aviation (CAPA).
Recently, Delta Air Lines entered into an agreement with Canadian
firm Bombardier Aerospace to purchase 40 new CRJ900 two-class
regional jets. These and superior two-class 76-seat aircraft will
replace Delta's old and depleted 60 single-class 50-seat domestic
The other international airlines that reduced their capacities
over the past two years are Air Canada, Air France, Qantas
Airways, Korean Airlines and All Nippon Airways.
Passengers are demanding comfortable and quality services with
proper security. Hence, airlines are focusing on fleet
rightsizing by bringing in new and advanced aircrafts that gel in
a fuel-expensive environment.
Though initially expensive, the new aircrafts are more fuel
efficient than the existing ones and have helped in lowering
operating and maintenance costs. Over the next 2 decades
(2011-2030), global airlines are expected to invest $3.5 trillion
to buy 27,800 new airplanes, having seating capacity of more than
100. New airlines business, advanced technology and dynamic
growth of air travel in emerging markets throughout the world are
boosting the demand for these airplanes.
About one-thirds of the global demand is expected to come from
Asia, which currently account for 28% of global air passengers.
The demand in Europe and the U.S. is expected to fall to 23% and
20% by 2030, respectively, from the current 27% that each enjoy.
Airbus, the world's leading aircraft manufacturer, is expected to
deliver the largest number of aircraft to the airline companies,
The Boeing Co.
). The progress thus attained would help the companies regain
their lost profits.
Hedging strategies are used by airline companies to cope with the
rising fuel prices. The carriers use a combination of calls,
swaps and collars at varying WTI crude-equivalent price levels to
U.S. Airlines - 20-Year Projection
The U.S. airline industry is expected to remain profitable over
the next two decades given the improving worldwide trends in air
travel. However, growth may be held back until 2015 due to the
increase in fuel costs and ongoing economic turmoil in the U.S.
Although U.S. airlines experienced sluggish growth over the last
few months, the demand for air travel will nearly double over the
next 20 years, as predicted by the U.S. Federal Aviation
Administration (FAA). Passenger enplanements is expected to grow
2.0% to 746 million in 2013 and about 3% in the future years,
reaching $1 billion by 2024 and $1.2 billion by 2032.
The FAA projects air traffic, customarily measured in billions of
revenue passenger miles -- implying a unit of one mile flown by
one passenger -- to grow by more than 90% over the same period.
Revenue passenger miles would jump from 815 billion reported last
year to 1.57 trillion by 2032 at an average annual rate of 3.2%.
International traffic is expected to grow 4.2% per year, in
contrast to domestic travel that will grow at a more modest clip
of 2.7% annually through 2032. This projection assumes a steady
economic recovery with no major headwinds like a large rise in
oil price, swings in macroeconomic policy or financial meltdowns.
Further, major North American airlines would raise capacity
(available seat miles) at an annual rate of 3.1%, reaching 1.89
trillion by 2032.
The 20-year airline growth is expected to stem from the
implementation of NextGen, the satellite-based navigation system
that aims to make air travel more efficient. The carriers are
taking numerous steps to improve their profitability as described
in the above sections.
Moreover, the growing demand for air travel and relatively lesser
number of planes will make future fare hikes possible over the
next two decades. Airline mergers and consolidation will bring
down the number of flights and reduce the number of cities
We believe industry consolidation and various ancillary revenues
will boost profitability and cost performance of most air
carriers going forward. This is an opportune moment for companies
to consolidate in order to regain their lost profits and
Additional Revenue Gains:
A number of supplementary revenue streams helped the airline
industry gain ground in 2011 and 2010 after two years of drought.
Ancillary revenues shot up 66% over the past two years to $22.6
billion in 2011. Air carriers are adding novel features to their
services and expanding new products to improve passenger
satisfaction and experience. The IATA projects total revenue of
$636 billion for 2012 and $660 million for 2013.
Carriers are going wireless with the in-flight entertainment
systems such as American Airlines' Gogo "Vision" wireless
video-on-demand, Delta Air Lines' "Delta Connect," Lufthansa's
"BoardConnect," Emirates' 'ice OnDemand" and Southwest's "Live
TV." Singapore Airlines, a top-notch carrier, is expected to
incur a spending of more than $350 million for the installation
of superior in-flight entertainment and communications system.
Cathay Pacific, Malaysia Airlines, KLM, Delta, Qantas and British
Airways have also made
) iPad available to passengers in their lounges, rent them out in
the air as well as use them as a self-service kiosk, customer
survey tool and food ordering tool.
Further, major U.S. carriers remain focused on expanding their
product and service offerings on board and on the ground. Delta
Air Lines and United Continental are installing winglets, WiFi
and flat-bed seats apart from expanding Economy Comfort or
Economy Plus seats to their fleet. United Continental is also
introducing streaming wireless video in its aircraft.
Southwest Airlines Co.
) is benefiting from EarlyBird check-in, unaccompanied minor
travel and pet fees. The company is renovating in-flight cabins
and redesigning interiors, and has labeled the new appearance as
Evolve: the New Southwest Experience. These fleet modernization
plans and the All-New Rapid Rewards program are contributing to
Passenger air transportation services provider
JetBlue Airways Corp.
) is experiencing solid growth given continued success in the
Getaway Vacations Division, as well as the Even More Space
Mergers & Acquisitions:
Airline companies consolidate in order to restore lost profits.
This is evident from the past three-mega mergers - Northwest
Airlines and Delta Air Lines in 2008, United Airlines and
Continental Airlines in 2010, and AirTran Holdings and Southwest
Airlines in 2011. All the three companies - Delta, United and
Southwest are the long-term beneficiaries on both the capacity
and cost fronts.
Recently, Delta Air Lines confirmed its plans to acquire a 49%
stake in British carrier Virgin Atlantic for £224 million or $360
million from Singapore Airlines. With this acquisition, Delta
Airlines will gain more control over one of the busiest air
routes in the world - New York to London. The deal will also
hugely benefit customers with a broader network of flights,
enhanced connectivity and convenient booking options.
The airline industry is awaiting another major consolidation. The
rumors about American Airlines merging with another airline have
been heating up since the company filed for bankruptcy protection
in November last year. American Airlines is evaluating its merger
proposal with US Airways, JetBlue,
Alaska Air Group
) and Frontier Airlines - a subsidiary of
Republic Airways Holdings
) and British Airways.
We see American Airlines-US Airways as a good pairing in the
industry as it will be in the best interest of the customers.
This collaboration would bring the merger airline on the same
pedestal with the largest U.S. air carrier - United Continental -
in terms of revenue and traffic. As a result, American Airlines
should emerge as a successful candidate by balancing its debt
level and lowering costs.
North American carriers are making continuous efforts to increase
their domestic and international flights. Delta Air Lines is
focusing on adding flights in New York, Latin America, Mexico and
Brazil. The company is involved with a $1.4 billion development
program directed toward two major New York airports. The company
will invest about $1.2 billion to set up a new international
terminal at John F. Kennedy International Airport, while
incurring a spending of $200 million to improve and expand
operations at LaGuardia Airport 's two terminals.
Southwest plans to start new non-stop services between a number
of airports from June next year. These include services between
Wichita and Chicago (Midway), Dallas Love Field, and Las Vegas;
San Juan and Baltimore/Washington; Houston (Hobby) and New York
LaGuardia; and Chicago (Midway) and Tulsa. Further, the company
is looking to tap opportunities in the international market with
its debut in the Caribbean, Central America, Latin America and
Mexican markets by 2015.
United Continental is benefiting and enhancing its access from
each other's hubs and networks, while JetBlue continues to
successfully expand its network in two major growth regions:
Boston to New York and the Caribbean.
Air carriers are opting for numerous technology upgrades and
system automation for various systems such as airline
reservation, flight operations, website maintenance and in-flight
entertainment. These upgrades allow the companies to function
effectively, minimize expenses and render better customer
The major outperformer we expect to be
), which has a Zacks #1 Rank (Strong Buy) for the short term (1-3
months). We also recommend US Airways Group that has a Zacks #2
Rank (short-term Buy).
We also like a few Zacks #3 (Hold) Rank stocks such as
Spirit Airlines Inc.
Allegiant Travel Company
Hawaiian Holdings Inc.
), Delta, JetBlue, Southwest, United Continental and
Of the many challenges facing the industry, the most important
ones include volatile fuel prices, economic weakness, natural
calamities, government regulation, unionization, airport
infrastructure constraints and safety concerns.
Oil Price Volatility:
Fuel price volatility continues to be one of the significant
challenges, as the cost of fuel is largely unpredictable. Airline
carriers' ability to pass along the increased costs of fuel to
its flyers is limited by the competitive nature of the industry.
Thus, even a small change in fuel prices can significantly affect
The airline business is labor intensive. Most of the employees
are unionized and depend on various U.S. labor organizations. The
relation between airlines and labor unions are governed by the
Railway Labor Act, which states that a collective bargaining
agreement between an airline and a labor union does not expire --
instead it becomes amendable as of a stated date. Failure to
amend terms and conditions suitably may lead to work stoppages or
strikes, and thereby hamper operations.
The airline industry is highly regulated, in particular by the
federal government. All companies engaged in air transportation
in the U.S. are subject to the regulations implemented by the
Department of Transportation (DOT). In January this year, the DOT
laid new pricing rules for air carriers that direct airline
companies to include all taxes and fees while advertising fares
for their flights. As the passengers are switching to low fares,
the new rules might hurt travel demand, thereby leading to lower
profits for industry.
Further, airlines are also regulated by the Federal Aviation
Administration (FAA), a division of the DOT, primarily in areas
of flight operations, maintenance and other safety and technical
The air carriers are investing lot of money to enhance their
products and services in order to make them competitive. However,
proper returns from these investments are uncertain or the
timings are unknown. The carriers have the possibility to lose
the money that was invested in the business for the new
All Nippon Airways Co. Ltd.
LATAM Airlines Group S.A.
), which have a Zacks #4 (Sell) Rank, to underperform compared to
the broader market.
BOEING CO (BA): Free Stock Analysis Report
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UNITED CONT HLD (UAL): Free Stock Analysis
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