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High Fuel Costs Likely to Hurt Airlines Q3 Earnings Picture

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Fuel costs account for a major chunk of an airline's operating costs. Hence, decline in fuel costs are a boon for any airline company. In such a scenario, operating expenses of carriers are significantly reduced, thereby boosting their bottom line through huge savings.

However, fuel costs are on the rise lately, with oil prices crossing the $50 a barrel threshold mark. This upsurge can be attributed to the improving demand outlook for the commodity and OPEC deal extension talks. This upsurge, however, does not spell good news for carriers.

Fuel Cost Outlook Raised by Carriers

It is a well-documented fact that Hurricanes Harvey and Irma had disrupted airline operations significantly. Harvey contributed to an increase in oil prices due to gasoline shortages caused by the storm. Higher fuel prices are expected to limit earnings growth of carriers in the third quarter. United Continental Holdings (UAL - Free Report) projects fuel price per gallon between $1.72 and $1.77 (earlier view: $1.56 to $1.61).

Southwest Airlines (LUV - Free Report) also lifted its forecast for fuel prices. The low-cost carrier expects fuel price (economic) per gallon between $2.00 and $2.05 (earlier projection was in the band of $1.95 and $2.00). Delta Air Lines (DAL - Free Report) also raised its outlook for the same to $1.68-$1.73 from the earlier $1.55-$1.60 bracket, backed by rise in market price that began in late July.

Labor Costs

As noted above, decline in fuel costs over the last few years had been a boon for airlines. Evidently, the financial health of carriers had improved significantly by means of huge savings induced by low fuel costs.

The financial prosperity of carriers had not gone unnoticed by their employees, who too were eager to get a share of the pie. This, in turn, propelled frequent new labor deals across the labor-intensive airline industry, thus increasing labor costs.

This had dented the earnings picture for airlines over the past few quarters and the third quarter is likely to be no different. With upsurge in fuel costs, the bottom line of airline stocks are expected to dent further this time.

 Top Lines Likely to Be Hurt

Major airline players like United Continental and American Airlines Group (AAL - Free Report) had to call off multiple flights due to Harvey and Irma. This is likely to hurt their top line in the third quarter. Markedly, the airline companies like United Continental, American Airlines, JetBlue Airways Corp. (JBLU - Free Report) and Spirit Airlines (SAVE - Free Report) also trimmed their unit-revenue outlook for the quarter, stung by these headwinds.

As a result, Spirit Airlines expects its top line to shrink to the tune of approximately $8.5 million. This view takes into account the multiple flights cancelled by the company as well as the continued soft demand for air travel to and from the affected areas due to Harvey. Weak airfares are likely to pressurize revenues.

Conclusion

The above commentary clearly suggests that turbulence is likely to affect airlines in the third quarter. Furthermore, the rise in fuel costs has proved to be a bane for carriers. In fact, according to the International Air Transport Association (“IATA”), oil price in 2017 is projected at $54 per barrel for Brent Crude that is above $44.6 per barrel in 2016. This significant increase in the input costs for airlines highlights the gloomy days ahead for the sector participants.

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