Celebrations of a return to profitability of US airlines during the second quarter after two years of dismal results are highly sedate as executive management teams remain focused on capacity restraint and balance sheet repair.
With the exception of American Airlines, all the US major carriers and low-cost airlines posted profits in the second quarter. Analysts CRT Capital Group says the industry's collective net income of $1.9 billion during the second quarter exceeded its initial forecast of $1.7 billion, and was a significant swing from the $959 million net loss carriers recorded for the same period in 2009.
Almost all US carriers hit some historical highs in their metrics with the return to second quarter profitability. US Airways posted its first profit excluding special items since the third quarter of 2007, and its second highest since its merger with America West in 2005. United declared its $430 million profit the largest recorded for a second quarter since 1999.
US Airways posted its first profit before special items since the third quarter of 2007
Continued capacity constraint and yield traction helped drive the favourable quarterly results, leading CRT Capital Group analysts to conclude second quarter performance by US carriers "provided more evidence that airline managements are in the early stages of developing more stable, profitable business models".
But part of the reason for tempered excitement about the industry's return to profitability is the performance of many fundamentals remain below 2008 levels, and the pace of the industry recovery remains uncertain.
"We do think lower demand is around the corner," say analysts at JP Morgan, who have notched down their fourth quarter unit revenue forecast for US carriers from 9.8% to 6.1%, and are nudging up oil prices estimates from $80 to $82 per barrel in the second half of 2010.
The dramatic slides in demand during 2009 result in difficult comparisons year-over-year when evaluating industry metrics. Many carriers are offering second quarter comparisons against results posted in 2008 for a more normalised view of results. But even then the comparisons are not clear cut, as US Airways president Scott Kirby points out, the second and third quarters of 2008 represent an all-time high for airline revenues as the economy was strong and airlines responded to high fuel prices with aggressive price increases.
Overall unit revenues at US Airways during the second quarter of this year were still 2% below 2008 levels, and Kirby explains all the carrier's revenue metrics are up dramatically year-over-year but are still slightly down from their peak in 2008. However, the performance of those metrics appears to be stable as Kirby explains US Airways is not seeing "either acceleration or deceleration from here".
United was the only carrier to buck the trend of outperforming some metrics recorded in 2008. Carrier president John Tague says United's consolidated revenue growth grew 5% compared with the same period in 2008. "Year-to-date United is the only major US network carrier to generate positive revenue growth versus 2008," he says.
But Tague warns while United's results are encouraging relative to its competitors, "more must be done to assure that we generate adequate full cycle profitability and to achieve a general return on invested capital that we have long stated as our goal". Rather than going on an "aircraft binge" that JP Morgan analysts say characterised profitability cycles of the mid-1990s, US airlines are setting return on invested capital (ROIC) targets and holding back on binging until those metrics are met consistently.During the second quarter Alaska Airlines estimated it posted a 12 month, 8.3% return on a $3.5 billion base of invested capital. "Depending on how the year shapes out, and I'll be quick to say that is not earnings guidance, we may very well hit our goal of a 10% return on invested capital," says Alaska chief financial officer Brandon Pedersen. "At the same time I want to reiterate that [Alaska] Air Group's goal is a 10% return over the business cycle, which means that in good years we'll need to generate a 12% or 13% return to offset returns for weaker years in the cycle."Alaska expects to operate 114 Boeing 737s through 2011, which is one aircraft less than 2009, and two fewer than it currently operates.
Southwest also has a stated goal of 15% ROIC and posted a 7% performance in that metric on a rolling 12 month basis through 30 June. Carrier chief financial officer Laura Wright believes that twelve month measure should be significantly better than 7% as it moves through the remainder of the year; however, she stresses Southwest has no intention of significantly growing the fleet "until our financial goals are achieved or in sight". Although Southwest has exercised 25 Boeing 737 options for delivery from 2011 through 2016, its fleet is likely to remain static at 544 aircraft for the next couple of years as older 737 classics exit its fleet.
An overall estimated 5% capacity increase released by JP Morgan by US carriers in the fourth quarter of this year may trigger some concern that the supply discipline during the last two years was just mirage. But the analysts caution that carriers during the fourth quarter of this year are coming off record utilisation lows of 2009, and to treat fourth quarter capacity growth as "the mathematical anomaly we believe it to be, with year-over-year trends then expected to settle back down into the 1-2% range in 2011".
Delta executives are also tempering any concern about the carrier's planned 5-7% capacity growth during the fourth quarter, using the same logic as the JP Morgan analysts. "The growth rate in the fourth quarter is a bit of an anomaly given the sizeable short-term pull-downs in the back-half of last year in the face of a very difficult revenue environment coupled with the concerns of H1N1," says carrier president Ed Bastian. Delta chief executive Richard Anderson says in 2011 it is sticking to previous capacity targets of 1-3%. Quantifying the increase during the last quarter of this year Anderson says: "Last year you'll recall we pulled probably twice the capacity than anybody else pulled in the September to December quarter."
CRT Capital analysts also stress that overall above average growth in the fourth quarter and into early 2010 "reflect a return to more normal winter schedules following the severe cutbacks of the past recession". They estimate industry capacity in quarter four matches 2008 levels.
While not certain some US carriers will not engage in a supply binge, most remain extremely cautious about the future, especially about a full-fledged recovery in lucrative business travellers. "We like the trends we are seeing, but continue to believe this will be a long slow recovery," says Continental chief marketing officer Jim Compton. "We have seen a continued sequential improvement in high yield passengers since the beginning of the year, but their numbers were still down about 20% in June 2010 compared with June 2008." He also stresses revenue from high-yield passengers for June was 10% below 2008 levels.