Airlines 2014 In Review: Airlines Take Off As Operating Environment Improves

2014 has been a good year for U.S. airlines. After piling up losses for most of the last decade, major U.S. airlines – including American (NASDAQ:AAL), United (NYSE:UAL), Delta (NYSE:DAL), Southwest (NYSE:LUV), JetBlue (NASDAQ:JBLU) and Alaska (NYSE:ALK) – have posted large profits in 2014. The stocks of all these airlines are up by over 50% since the start of 2014, with American and Southwest’s stocks up by about 100% over the same period. The improved operating environment – rising demand for flights and lower jet fuel prices – has been the key growth driver for airlines in 2014. According to data from the Bureau of Transportation Statistics, airlines have added nearly 4% capacity in the first nine months of 2014, alongside improving their occupancy rates (percentage of seats occupied by passengers in flights). ^[1] This clearly shows that the increased supply of seats from airlines has been absorbed by passengers, reflecting growing demand for air travel. Jet fuel prices have also been lower in 2014, due to the sharp drop in global crude oil prices. This lower price of jet fuel has also helped lift airline profits this year.

Separately, each airline took steps in 2014 to improve their results. Below we review these steps and assess their potential impact in 2015.

See our complete analysis of: American, United, Delta, Southwest, JetBlue and Alaska

American

American emerged from bankruptcy in December 2013, with its stock beginning to trade at $26.40. As the carrier posted solid profits quarter after quarter, its stock rose, trading at around $50 currently. We figure American’s expanded flight network and gains from cost-cutting undertaken during bankruptcy set the foundation for its solid profit growth in 2014. The addition of US Airways’ network significantly expanded American’s flight network, driving its profits. The old American, with hubs at Dallas, New York, Chicago, Miami and Los Angeles, had a large, spread out domestic network. However, the carrier’s network was not as well equipped to fly passengers up and down the east coast, which is one of the most lucrative markets in the U.S. US Airways, with hubs in Philadelphia and Charlotte, along with a significant presence in Washington DC, plugged this gap in the old American’s network, giving the combined network a commanding position in the domestic market. This strong domestic network in turn catalyzed American’s international growth, as the domestic network feeds in to the international network. So the merger with US Airways played a key role in growing American’s profits in 2014.

In addition, American has done a good job of integrating US Airways. Airline integration always poses risks, as was highlighted in United and Continental’s integration in 2012, when the combined airline’s on-time arrival and departure rates drastically dropped due to issues with the integration of their IT systems. In contrast, American has so far been able to integrate US Airways without any major issues. Investor concerns stemming from integration risks have gradually subsided, giving a further boost to the airline’s stock. Having said that, American and US Airways still have to achieve a Single Operating Certificate (SOC), a combined frequent flyer program (which has been announced for 2015) and a single booking window before they can operate as a single airline.

In the first three quarters of 2014, gains from an expanded flight network and smooth integration of US Airways have allowed American to post a profit of over $3 billion, excluding special items. ^[2]

United

United turned around its substandard performance into solid results in 2014. After a terrible 2012 and a modest 2013, United began to post solid profits from the second quarter of 2014. After completing the integration of Continental, United took measures this year to lift its revenue and cost performances, which had lagged behind competitors Delta and American. During the year, United restructured its Pacific international operations, eliminating a few trans-Pacific flights that did not have expected occupancy levels. The carrier also down-gauged (shifted to smaller airplanes) its Sydney and Melbourne service from San Francisco and Los Angeles, and reduced its intra-Asia service.

United also took steps to improve its cost performance. The carrier reduced non-fuel costs related to four key items – employee salaries, distribution costs, sourcing costs and maintenance costs. The carrier contained its salary costs by raising employee productivity through the use of technology. The carrier saved on maintenance costs by implementing lean practices, and it saved on distribution costs by attracting greater bookings through united.com. Through these measures, United expects to save around $250-300 million in 2014. These revenue- and cost-side measures were critical in enabling United to lift its profit (excluding special items) to over $1.5 billion in the nine months ended September 30, 2014. ^[3]

Delta

Delta built on its growth momentum in 2014. The carrier led U.S. airlines in profits in 2012 and 2013, and has retained this solid performance in 2014, posting $2.2 billion in profit (excluding special items) in the first three quarters. ^[4] During the year, Delta focused on growing its top line by expanding in select locations – Seattle, New York and London. Among the three network carriers, Delta expanded its flying capacity and top line at the highest rate in 2014 driven by expansion at these locations. Looking out in 2015, we figure Delta is set to retain its growth momentum.

Southwest

Southwest’s stock has risen the most – by around 120% – among major airlines in 2014. The low-cost airline benefited from three major developments in its business during the year. First, Southwest successfully acquired slots at Washington Reagan and New York LaGuardia to expand at these high value airports; second, the carrier started flying internationally; and third, the carrier became free from flight restrictions at the Dallas Love Field airport. These business developments enabled Southwest to nearly double its profit to $1 billion in the first three quarters of 2014, compared to the same period in 2013. ^[5] Looking ahead, we believe Southwest is set to retain its growth momentum in 2015 on sustained gains from these major business developments.

JetBlue and Alaska

JetBlue and Alaska added capacity at higher rates than network carriers and Southwest in 2014 in an attempt to grow their market shares. This capacity expansion, supported by the solid demand for air travel, was the primary growth driver in JetBlue and Alaska’s results in 2014. In the nine months ended September 30, 2014, JetBlue posted $313 million in profits, and Alaska posted $446 million in profits. ^{[6] [7]} During the year, these two carriers also took some major steps. JetBlue started offering premium class Mint service on select transcontinental routes seeking to diversify its customer base to business travelers. While Alaska had to fight off expansion by Delta at its Seattle hub, it also diversified into other markets such as Salt Lake City. The steadily rising demand for flights in the domestic market also absorbed a portion of Delta’s capacity expansion at Seattle, tempering the impact on Alaska.

Looking ahead, in 2015, these six largest U.S. airlines look set to post even better results as fuel costs are expected to be lower and demand for air travel is expected to be higher based on U.S. economic growth.

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1. Bureau of Transportation Statistics data, December 26 2014, www.transtats.bts.gov [↩]
2. American’s 2014 Q3 earnings form 8-K, October 23 2014, www.aa.com [↩]
3. United’s 2014 Q3 earnings form 8-K, October 23 2014, www.unitedcontinentalholdings.com [↩]
4. Delta’s 2014 Q3 earnings form 8-K, October 16 2014, www.delta.com [↩]
5. Southwest’s Q3 2014 earnings form 8-K, October 23 2014, www.swamedia.com [↩]
6. JetBlue’s 2014 Q3 earnings form 8-K, October 23 2014, www.jetblue.com [↩]
7. Alaska’s 2014 Q3 earnings form 8-K, October 23 2014, www.alaskaworld.com [↩]