A string of successive airfare hikes in the past few months may only be the beginning for corporate buyers and other consumers of air travel previously immune to high jet fuel prices. In the intensely competitive domestic airline industry, carriers until recently had been unable or unwilling to raise fares but even healthier low-cost carriers now are starting to feel the sting of fuel. Should crude oil prices remain above $50 a barrel, or spike over $100, as one recent report suggests, airlines either will ask their passengers to assume more of the cost burden or they will simply fail.
"There is this hope that this tough environment is a transitory situation and the reality that this is probably permanent is starting to sink in," said AirTran CEO Joe Leonard in a recent BTN interview
(see story). "The question isn't if prices will go up. The question is when, and by how much?"
Airlines have been unable to directly pass fuel costs onto passengers in the domestic market, as they have on cargo shipments, but that soon may change. "You will see domestic fuel surcharges in 2006," predicted WorldTravel BTI president Danny Hood during the BTN Corporate Travel World conference last month. "You should budget for that."
For now, carriers may continue increasing published fares on intercontinental routes and even within the domestic market. Indeed, the price hikes enacted in the first quarter and early April—including rare fare increases by the likes of JetBlue and Southwest—suggested airline pricing after fare reform earlier this year had reached bottom, given current fuel prices.
Beyond raising revenues, airlines must offset fuel costs with leaner operations and more fuel-efficient fleets. A handful of more financially secure carriers, notably Southwest Airlines, also benefit by purchasing fuel hedges at favorable prices. "Even with our great fuel hedge, our fuel bill this year will be up $200 million," said Southwest CEO Gary Kelly, speaking during an investors conference last month. "We need to be prepared for much higher energy prices."
A recent eye-popping Goldman Sachs investment report on the energy sector brought such news, suggesting oil markets had entered a "super spike" period that could send prices as high as $105 per barrel. Following that report, crude oil prices on the New York Mercantile Exchange peaked above $58 per barrel. At press time, however, the price of a barrel of crude retreated and was hovering just above $50.
"To the extent that there is some kind of a supply disruption, $100 a barrel does not seem outlandish," said International Monetary Fund economist Raghuram Rajan, speaking to reporters this month. IMF recently pegged the upper range of a potential spike around $80 per barrel. "The oil market will remain tight in coming years and we should expect to live with high and volatile oil prices which will continue to pose a risk to the global economy."
Carrier sources and industry analysts said airlines possibly could regain profitability if oil prices dropped back below $45. The International Air Transport Association, however, said $43 oil for the global airline industry in 2005 would translate into $76 billion in total fuel expenses and a $5.5 billion loss.
Though full-year 2005 and longer-term price estimates are less severe than any spike scenario, they generally are above $45 and plenty challenging for heavy gas consumers. Goldman Sachs raised full-year 2005 spot oil estimates to $50 per barrel and 2006 estimates to $55. IMF said 2005 global average prices would be just above $52, with inflation-adjusted estimates through 2030 ranging from $39 to $56 per barrel.
JPMorgan Chase's airline forecasts now are based on $53 oil next quarter and $47 for 2006, "far less optimistic than our earlier estimates," said analyst Jamie Baker.
According to forecasts, strong demand from several regions, notably China, likely would outpace any output growth, owing in part to the sector's slow investment-to-production cycle. Moreover, geopolitical developments always threaten new supply disruptions.
"Supply growth expected, just not enough to recreate a spare capacity cushion," Goldman Sachs concluded for short-term market conditions. Longer-term, "We believe either material new investments will be made or demand will be destroyed, allowing for a return of a spare supply cushion, lower commodity prices, and a return of 'cost of capital' rates of return for industry at large."
Such price moderation may not occur in time to save certain ailing U.S. carriers. "There is no incentive for the price of oil to come down in the short term," said Helane Becker, analyst with The Benchmark Co., also speaking last month during CTW and noting currency conversion disadvantages. "We are likely to see several more airline chapter 11s and near-chapter 11s by year-end."