American Pivots to Changed Marketplace

Jay Shabat

May 1st, 2023

American Airlines posted a solid 3.7 percent operating margin in the first quarter. That’s much better than United Airlines negative 0.4 percent margin, and a hair below Delta Air Lines 4.1 percent margin. But it came in more than a point shy of American’s own 4.8 percent result four years earlier.

The Fort Worth, Texas-based carrier benefitted from strong travel demand, particularly for its Sunbelt-oriented network centered around its key Dallas-Fort Worth and Charlotte hubs. But there’s more to the story at American, critically the rise in blended travel — or when people combine work and leisure elements into a single trip. Blended trips are fastest growing segment of the airline’s business, and the shift is driving changes to just about everything it does, from how it sells flights to its loyalty program and investments in premium seats.

American’s dramatic introduction of new so-called New Distribution Capability, or NDC, direct booking channels earlier this year is, in part, a response to blended travelers’ demand for more control and flexibility over their own travel. Those same travelers are driving a significant increase in membership to American’s loyalty program, AAdvantage, and new sign ups to its lucrative co-branded credit card agreements. In the first quarter, the airline recorded 60 percent more new AAdvantage accounts than four years earlier.

“The more that we can give [customers] a contemporary retailing experience, like what they get [with] anything else they buy, the more value,” American Chief Commercial Officer Vasu Raja said last week.

Blended travel has taken about 15 percentage points of share, for a total of about 35 percent of all bookings at American, from pure corporate travel, he said. And that shift is significantly more lucrative for the airline: “The blended yields we see coming in are 8-10 percent higher than the very business trips they replace.” And it’s good that blended travel yields are higher as overall business travel demand remains below 2019 levels.

“The marketplace has changed,” American CEO Robert Isom said of corporate travel.

On the demand front, international longhaul travel is in the midst of the surge in pent-up demand that American and other U.S. airlines saw domestically last year. As such, American is focused on recovering its longhaul network in the second quarter. Capacity in longhaul markets, for example to London, São Paulo, or Tokyo will increase 82 percent compared to last year; overall system capacity will be up 3.5-5.5 percent year-over-year.

“This summer in longhaul is going to be a seasonally, and probably historically, strong longhaul summer,” Raja said.

Delta and United have similarly reported record demand for longhaul travel this summer. All three major U.S. carriers are deploying as much capacity as they can on flights to Asia, Europe, and South America. In the second quarter, Delta and United will fly 43 percent and 40 percent more longhaul capacity, respectively, than they did last year, according to Diio by Cirium schedules. American? Just 9.5 percent more.

American’s longhaul growth is so much more muted because one critical fact: It has fewer of the planes that fly long routes than it did four years ago. The airline is down roughly 45 widebody aircraft due to the combination of its pandemic-era decision to retire its Airbus A330s and Boeing 767s early, and Boeing’s issues delivering new 787s on time. Delta retired fewer widebody planes during the pandemic and has benefitted from only having Airbus models on order; and United did not retire any planes during the crisis.

“The longhaul business … it’s the most volatile part of a relatively volatile business,” Raja said. “It’s the most capital-intensive part of a capital-intensive business and it can be very complex operationally too. So what we found is that actually by being a very focused operator, a simplified fleet, things like that, that enables us to go and respond to demand a lot more appropriately.”

American has outstanding firm orders for only 33 787s leaving it likely with fewer widebody jets for years to come. The airline also has an order for 50 long-range Airbus A321XLR jets that it could use to launch new, thinner routes to Europe or South America — think Philadelphia to Berlin, or Miami to Recife, Brazil — during the second half of the decade.

In addition, Raja repeated that American is focused on flying travelers to partners’ hubs where they can connect on to other international destinations rather than serving every possible point with its own aircraft. He cited increased frequencies to London Heathrow, a hub for partner British Airways, from American’s mega Charlotte and Dallas-Fort Worth hubs as an example.

Overall travel demand is “strong” but also “constructive” heading into the summer, American Chief Financial Officer Devon May said. That was a more tepid endorsement of the sentiment for future travel than other U.S. airline executives. However, for American that is likely more a measure of the fact that domestic travel demand — it’s largest business segment — is simply flat compared to last year’s torrid growth.

Take total unit revenues, or TRASM, are forecast to fall on a year-over-year basis for the first time in more than a year in the second quarter. American anticipates a 2-4 percent decline in TRASM compared to 2019.

And domestic revenues will likely be helped by the numerous constraints on U.S. air travel this summer. The shortage of captains, particularly at regional airlines, has roughly 150 aircraft in American’s regional fleet still parked. And air traffic control staffing issues in New York mean American and partner JetBlue Airways will fly fewer flights — but more seats according to Raja — through JFK, LaGuardia, and Newark airports this summer than last year.

American reported a $33 million net profit excluding special items in the first quarter. Revenues jumped 37 percent year-over-year to $12.2 billion, total unit revenues increased 25.4 percent, and unit costs excluding fuel decreased 1.4 percent.

The cost savings are significant given the airline industry’s rapid run up in expenses since Covid. American, however, does not expect the declines to continue. Citing an expected new — and costly — contract with pilots, May said unit costs excluding fuel will increase 3.5-5.5 percent compared to 2019 in the second quarter.

Looking ahead, American anticipates another profit in the second quarter with a forecasted 11-13 percent operating margin.

Edward Russell

Southwest’s Dueling First Quarter Storylines

For Southwest Airlines, January through March was a self-described quarter of “two competing storylines.” During the first two months of the period, the airline suffered residual effects from its December operational meltdown, which combined with a normal seasonal lull to drive $163 million in quarterly red ink, excluding special items. Operating margin for the quarter was negative 5 percent. But the other side of the story: A strong month of March, in which the airline produced “strong double-digit margins despite high fuel prices.”

Alas, those March profits weren’t enough to offset the January and February losses. Included in those losses was $380 million pretax attributable to its December fiasco, which already cost Southwest $800 million in the fourth quarter. But the airline told investors last week to expect better things for the quarters to come.

“As we look ahead,” CEO Bob Jordan said, “we currently expect solid profits here in Q2. We continue to expect solid profits for [the] full year.” It said about 75 percent of second quarter seats are already booked, and yields and unit revenues look strong. That’s true for leisure travel. And managed corporate travel is close to being back to pre-pandemic norms. Speaking more generally, chief commercial officer Ryan Green said, “The overall domestic revenue environment remains strong.” Southwest is largely a domestic carrier, with just a relatively small portion of its capacity flying across borders, exclusively to Mexico and the Caribbean.

During the carrier’s earnings call, management came under some fire for upward revisions to its non-fuel unit cost outlook. Executives responded by highlighting the industry’s escalating labor costs — Southwest hasn’t yet signed a new pilot contract but is already including estimates of its eventual costs in its financial reporting and guidance. It’s assuming it will need to pay something akin to Delta‘s industry-leading rates. In addition, Southwest is revising down its capacity plans for the post-summer period, which adds to unit cost pressure. “We are reducing our full-year 2023 growth plans due to a lower planning assumption for Boeing [737] Max deliveries this year,” Jordan remarked. “This relates to the recent news of further supply chain challenges at Boeing. The outcome is a reduction to our 2023 capacity.”

As for fuel, hedging helped lower Southwest’s average fuel costs last quarter to $3.19 per gallon, more than 30 cents less than JetBlue’s average, for example. This quarter, Southwest expects to save about $70 million from its hedges.  

Another big theme of the call was Southwest’s brand, and whether it’s suffered longterm damage from its headline-grabbing mega-meltdown this winter. Management insisted the answer is no. “I want to mention,” said Green, “that we have watched our brand metrics very closely since the disruption, and our scores have improved significantly throughout the first quarter. We are very fortunate to have a loyal customer base at Southwest that we do not take for granted, and we’ll continue to communicate to them about our remediation plans and aim to consistently deliver the hospitality, customer service, and operational reliability they are accustomed to from us at Southwest.” Management downplayed an incident early this month (April 18), when the carrier experienced what it called “a double firewall failure that resulted in an unexpected loss of connection to some operational data.” Ultimately, it led to the cancelation of just 22 flights.

The carrier hopes to further impress customers with three onboard initiatives, namely better inflight wi-fi, in-seat power, and larger overhead storage bins. Other non-customer-facing initiatives include new revenue management software, efforts to win more corporate traffic, and plans to rebuild its network to pre-pandemic status by the end of this year. Central to Southwest’s strategy is its large 737 Max orderbook, which includes the smaller -7 variant that has yet to be certified. Earlier this year, it planned to take 90 new 737-8s but, due to Boeing’s production issues, it now expects just 70 aircraft.

Jay Shabat

JetBlue Warns of More Summertime Operational Distress

JetBlue‘s struggles with flight delays and cancellations in the Northeast could escalate this summer as the shortage in air traffic controllers worsens. “This is going to be a most challenging summer ahead,” JetBlue President Joanna Geraghty said during the carrier’s first-quarter earnings call last week.

The U.S. Federal Aviation Administration, which manages air traffic control, has warned airlines that it is only staffed to 54 percent of target levels in the New York City area, and that could lead to significant flight delays. To limit the potential disruptions, the regulator is allowing airlines to idle up to 10 percent of their slots and runway timings at New York JFK, LaGuardia, and Newark airports from May through September. Slots and runway timings are normally subject to use-it-or-lose-it rules.

JetBlue has reduced its New York-area schedules by 10 percent this summer, Head of Revenue and Planning Dave Clark said. Those cuts are focused on “shorter-haul routes, smaller gauge flights and routes that generally we felt would have the least impact of the loss to frequency.” For example, JetBlue has postponed the launch of three new flights between JFK and Washington Reagan National to September from June, reduced its schedule on at least six routes from JFK, including to Dallas-Fort Worth, Miami, Rochester, and Syracuse, and even cancelled JFK-Worcester flights from June 15, according to Diio by Cirium schedules.

The reduction in overall New York-area capacity, in available seat mile (ASM) terms, will be “much smaller” than 10 percent, Clark added.

Despite these cuts, JetBlue executives are setting low expectations for summer operations. The airline is more exposed to any issue in New York or the Northeast than any other U.S. carrier. Roughly half of all of its flights will touch either JFK, LaGuardia, or Newark in June, July, and August, Diio data show. The number rises to 75 percent when including the entire Northeast.

Delays and cancellations spike during “convective” weather events — for example, thunderstorms that are common during the summer — and at peak times, like the evening European departure bank at JFK, Geraghty said.

“This has been an on-going issue for years, [and] it’s gotten worse,” she said, adding that there is no “short-term fix.”

It takes about three years to train and certify a new air traffic controller. The process was paused during the pandemic that, when coupled with retirements, exacerbated what were preexisting staffing issues.

The FAA’s admission of a staffing shortage is significant in its own right. Last year, when executives at Delta, United, and others singled out air traffic control staffing as a significant contributor to flight delays and cancellations, the regulator responded by arguing that most irregular operations last summer were the fault of airlines.

Potential flight disruptions aside, JetBlue is optimistic about its outlook. Travel demand remains strong, particularly among the leisure flyers that make up the bulk of the carrier’s travelers, despite slowdowns in other sectors of the U.S. economy. Corporate demand stood at 80 percent of 2019 levels in the first quarter, and continues to recover. And the airline’s controversial alliance with American, the update to its TrueBlue loyalty program, and the expansion of JetBlue Travel Products are all “meaningfully,” as Geraghty put it, contributing to its bottom line.

The airline’s European franchise is growing meaningfully. Flights to Paris begin in June, and Amsterdam in August bringing the total number of JetBlue gateways in Europe to four. Clark said that, once it has fully ramped up Amsterdam, Paris, and existing London operations next year, the carrier still has another roughly 15 Airbus A321LRs and A321XLRs on order for further expansion across the water jump. JetBlue will be “more creative in where we want to go” with future markets, he added.

And critically for JetBlue, it is making progress on its program to cut $250 million in annual structural expenses from its business by 2024, Chief Financial Officer Ursula Hurley said. The airline has realized $35 million in annual savings to date, and expects another $70 million — or $105 million total — by the end of the year, she said. JetBlue is on track to hit its target by the end of 2024.

Any structural savings JetBlue can eke out are much needed. The airline expects significant sequential increases in pilot expenses this year under a contract deal ratified in January. In addition, aircraft maintenance expenses jump in the second half of the year. And, further out, its proposed merger with Spirit Airlines — if approved — will add significant costs.

Unit costs, measured in costs per available seat mile (CASM), excluding fuel increased 1.2 percent year-over-year in the first quarter, the low-end of the carrier’s up 1-2 percent guidance. The metric is forecast to increase a further 1.5-3.5 percent in the second quarter, and JetBlue maintains its annual forecast of a 1.5-4.5 percent increase.

JetBlue expects a 4.5-8.5 percent year-over-year increase in revenues, and profit with adjusted earnings per share of $0.35-0.45 in the second quarter. Capacity is forecast to increase 4.5-7.5 percent compared to 2022; this increase stems partly from the operational issues that constrained the airline’s schedule last year.

In the first quarter, JetBlue lost $111 million and had a negative 6 percent adjusted operating margin — not a good result for an airline as heavily invested in warm-weather leisure markets that peak in the winter. Revenues increased 34 percent year-over-year to $2.3 billion, and passenger unit revenues (PRASM) by 25 percent. Capacity was up 9 percent.

Edward Russell

Spirit Encounters Major Post-Pandemic Problems

If there was one airline you’d expect to do well in the first quarter, it’s Spirit, a Florida-based carrier with lots of winter-peaking sunshine routes. Well, it did not do well in this year’s first quarter, instead suffering a negative 7 percent operating margin. By now you can guess that demand was the least of its problems. Plenty of people still want to go to the places it flies. And they’re willing to pay handsomely. But Spirit still faces a litany of operational aches and pains that increasingly justify Scott Kirby’s claim that growth-dependent LCCs like Spirit are doomed in the brave new world of aircraft shortages, aviation infrastructure bottlenecks, and tight labor markets. United’s CEO might have added climate change to the list, with airlines facing more weather-related disruptions like the flooding that closed Fort Lauderdale airport for a period in early April. That was in the second quarter.

But in the first quarter, Spirit faced other woes, including ongoing reliability issues with its aircraft engines. Pilot attrition remains a problem despite having a new contract in place. Management spoke of Las Vegas airport becoming more operationally problematic (Southwest mentioned this too). FAA understaffing has Spirit (like its fiancé JetBlue) worried about operational trouble around New York this summer. As a result of all this operational messiness, Spirit is sacrificing many of the tactics it usually depends on for success. For example, it’s not varying its schedules by day-of-week much, for the sake of operational simplicity. That’s resulting in lower load factors on offpeak days. Longer-term though, Spirit remains confident, urging federal antitrust regulators to approve its JetBlue merger, and in the meantime preparing for the imminent introduction of its first A321neos.

Jay Shabat

In Other News

  • Colombia tentatively approved Avianca‘s merger with Viva Air last week with conditions. A good end to the saga for Avianca? Maybe not. The airline fired back at Aerocivil’s conditions calling them “unfeasible” owing to Viva’s now two-month shutdown, and the imminent expiration of bankruptcy protections for the company. Avianca noted in its response that “Viva has lost aircraft, lost employees, and lost capacity” during its shutdown — all true statements as lessors have repossessed aircraft, and competitors like Latam Airlines have hired former Viva staff. The question in Colombia is less will Avianca and Viva merge, and more: Will Viva ever fly again?
  • The story in Brazil right now is that airlines are earning extremely strong operating profits, thanks in part to a subdued competitive situation — like Mexico, the country has just three airlines controlling almost all of the traffic. For Azul and Gol, however, balance sheet concerns persist, with financial obligations becoming more burdensome due to Brazilian currency weakness versus the U.S. dollar. Gol, which reported results last week, sure enough had a great first quarter, underpinned by a lofty 17 percent operating margin. It now expects a 14 percent EBIT margin for the full year. But it also expects to end 2023 with $3.5 billion in aircraft debt, and $2.7 billion in financial debt. So its pretax margin this year (which includes payments of interest on debt) is expected to be just 3 percent. Last quarter, Gol added seats for Carnival while growing capacity to the U.S. and Argentina. Aircraft utilization, it said, is back to pre-pandemic levels. Gol is separately mimicking Azul, and expanding in the areas of packaged tourism and cargo. Smiles, its loyalty program, remains a critical profit center. Gol’s big strategic move is merging with Avianca, into an IAG-like structure. Currently, demand is strongest among leisure travelers, especially those booking directly with the airline. Corporate travel is only 70 percent recovered, and large corporates just 50 percent. Some sectors are fully or almost fully recovered like energy and logistics. But Brazilian financial and real estate firms are still flying just half as much as they were before Covid. It’s even weaker for auto and pharmaceutical firms.  
  • Finnair sees no end in sight for Russia’s aerospace closure. But fortunately, Asian demand is returning anyway, despite longer flying distances and higher fares. Cargo revenues, though off their highs, remain important to Asian route profitability. The exception is still China, where travel restrictions are still being removed (including Covid testing requirements just last week; Finnair itself just lifted mask requirements for its Chinese flights). But visa and passport obstacles remain for Chinese travel to Europe. “Chinese travel for the time being is [therefore] directed to those countries where they don’t need the visa like Thailand and Vietnam and so forth … But eventually, when the passport and visa issues are addressed, we think that there will be a significant pent-up demand for traffic to and from China.” On the other hand, when it does expand in China, it will be competing with Chinese carriers that can in fact fly through Russian airspace. China aside, demand is strong throughout the network, enabling Finnair to earn a tiny operating profit for the first quarter, a big triumph given seasonality. Partnerships with Qatar Airways, Japan Airlines, IAG, and American are helping. The airline is aggressively cutting costs, even securing labor concessions. But the company is accumulating a lot of debt. And it doesn’t think full-year 2023 operating margin can match what it earned in 2019.
  • Eww, this was ugly. Hawaiian Airlines, a profit champion throughout most of the 2010s, dismayed investors with a bloody negative 21 percent first quarter operating margin. More so than other U.S. carriers, Hawaiian has been unable to get back on its feet following the pandemic, even as demand on the key U.S. mainland-Hawaii market soars. Last quarter was a hailstorm of setbacks, including a troubled IT cutover, severe A321neo engine problems, and highly disruptive runway construction at the Honolulu airport. More importantly, Hawaiian is a rare airline these days with a demand problem, specifically the failure of Japanese tourists to revive their travel. The airline said it’s seen some “green shoots” for outbound Japan demand in recent weeks, but there’s still a long way to go. A bloody inter-island battle with Southwest, meanwhile, continues to depress yields, if perhaps a bit less recently.

Jay Shabat & Edward Russell

Jay Shabat

May 1st, 2023