U.S. Airlines Release Earnings: The Good, the Bad, and the Ugly

Airlines reported second quarter earnings results this past week, and as expected, many airlines struggled. But first the good news. Southwest, JetBlue, AirTran, and Allegiant all reported profits, with AirTran reporting excellent numbers (making more money than Southwest in the quarter). Allegiant increased its profit nine-fold from Q2 2008 (though much of this is due to the fact that oil doesn't cost $140 a barrel right now, which hit Allegiant and its fleet of older, inefficient aircraft especially hard. But although these carriers reported profits, don't expect much capacity growth to follow. AirTran is cutting ASMs 4% this year, and Southwest has already cut hundreds of flights from its timetables (though the carrier has added a few as well in New York and Minneapolis). Allegiant will be the only carrier which will do much growing, and they have been very careful about not flying money-losing routes. The company has announced numerous cities in the past only to see lackluster initial bookings, and pull out even before service starts. Although this is frustrating at times for customers, it helps the company ensure that it is expanding into markets only where it is wanted, and where it will be profitable.

The legacies all reported losses (with the exception of United and US Airways, which made money on paper due to gains from fuel hedge contracts, but lost money when those were excluded), but they weren't terrible, horrible losses. Nevertheless, if airlines are losing money in the early summer months, which are typically quite profitable, then it doesn't bode well for the slower fall and winter months which lie ahead. If the economy, and business travel, fail to pick up soon, more layoffs and capacity cuts could be announced. Already, Continental announced job cuts along with its Q2 earnings, and United announced a further capacity cut with its earnings. Legacy carriers are continuing to suffer, and although planes got fuller, yields had to come down in order to get passengers onboard.

But these earnings announcements from the legacies should not be a sign of gloom and doom, which is how many media and analysts often view them. I recently saw an intelligent comment (see July 13) from airline consultant Mike Boyd, in between his tirades that the passage of the economic stimulus bill was the worst travesty this nation has had to endure since the invention of the Great Global Warming Hoax by some eco-fascist desperately seeking attention. He noted that consolidation is unlikely to occur, and that the legacies we have should all remain intact through this difficult period. Unlike in Europe, where the market is oversaturated with too many airlines, as I noted yesterday, in the U.S., there really aren't that many carriers, and consolidation or bankruptcies which may look good on paper are unlikely to happen anytime soon. But Boyd also noted that the capacity cuts which are occurring now will help make airlines much stronger in the future. Airlines will be quick to cut, but may be a bit more cautious when re-entering. And this could make for airlines which will be very strong, and very profitable when the economy recovers.

I think Boyd is right on this front, but given the very fragile state of the economy, airlines may still face continued pressure on yields, which could, along with the roulette wheel of oil prices, dampen any profitability streak. And to the detriment of airlines, businesses will be increasingly careful with their travel budgets in an environment of enhanced public scrutiny. Travelers who used to buy full-fare tickets may take fewer trips, and book those tickets farther in advance.

But, while Boyd acknowledges the possibility of bankruptcies, I would go one step further and say that, while most airlines are not likely to be headed into Chapter 11 anytime soon, some sort of significant reorganization, possibly bankruptcy, may be needed at US Airways. The company is doing what it can to pull capacity out of lower-yielding markets, particularly Las Vegas. But although the airline reported relatively good Q2 numbers, its low cash position and its dependence on higher cost 50-seat regional jets worries me. The company's labor issues, particularly with its contentious pilots unions, as well as the risk of losing close ties to United when Continental joins Star Alliance don't help matters either. Moreover, the airline is heavily exposed to certain business routes, and markets, which are likely suffering in this downturn. US Airways has already had to trim some capacity on its formerly lucrative east coast shuttle service, and the company's one hub which is relatively unpenetrated by LCCs, Charlotte, is suffering due to a downturn in that region's largest sector—banking. Plus, although some international routes have been hit hard by the banking crisis, they still offer airlines the opportunity to generate higher yields. Yet US Airways only flies a smattering of international routes in Latin America, Canada, and Europe, most of which face significant indirect competition from other American legacy carriers. The company has no flights to Asia, Australia, or Africa, which may be advantageous now, but will hurt the company tremendously when international travel picks up after this recession. Is this to say that US Airways will immediately run into trouble? No, but the company continues to be exposed to some of the worst competitive pressures of any airline, while experiencing less brand loyalty and pricing power due to its lower-than-average service standards, and the company has failed to demonstrate that it has found a sustainable, profitable niche in the market.